Download - A Level Economics B
A Level Economics B
Getting Started Guide Issue 2Pearson Edexcel Level 3 Advanced GCE in Economics B (9EB0)Please note: Information within this document relating to AS Level Economics B is no longer applicable because the qualification is no longer available
Getting Started: A level in Economics B 2015
Contents
1. Introduction 1
1.1 Research and key principles 1
1.2 Support for the new specifications 2
2. What’s changed? 4
2.1 How have AS and A level changed? 4
Changes to AS and A level qualifications 4
Changes to subject criteria 4
Changes to Assessment Objectives 6
2.2 Changes to the Pearson Edexcel AS and A level Economics B specifications 7
Specification overview 7
Changes to specification content 9
Changes to assessment 11
3. Planning 13
3.1 Planning and delivering linear AS and A level courses 13
3.2 Delivery models 13
3.3 Co-teaching AS and A level 14
3.4 Suggested resources 14
4. Content guidance 15
Theme 1: Markets, consumers and firms 15
1.1.1 The economic problem 15
1.1.2 Business objectives 15
1.1.3 Stakeholders (economic agents) and their objectives 16
1.2.1 Role of an entrepreneur in the economy 17
1.2.2 Entrepreneurial motives 18
1.2.3 Factors of production 18
1.2.4 Specialisation 19
1.2.5 The wider economic environment 19
1.3.1 Demand 20
1.3.2 Supply 20
1.3.3 Price determination 21
1.3.4 Price mechanism 21
1.3.5 Understanding the consumer 22
1.3.6 The competition 22
1.4.1 Role of banks in the economy 23
1.4.2 Risk and liability 24
1.4.3 Types and sources of credit and the impact of credit within the
economy 24
1.5.1 Market failure and externalities 25
1.5.2 Government intervention and failure 26
1.6.1 Revenue and costs 26
1.6.2 The relationship between revenue and costs 26
1.6.3 Profit and loss 27
1.6.4 Business survival and cash flow 27
Theme 2: The wider economic environment 28
2.1.1 Growth 28
2.1.2 Methods of growth 29
2.1.3 Research and development (R&D) and innovation 29
2.1.4 How the digital economy affects markets and firms 30
2.1.5 How small firms compete 31
2.2.2 Competing on price 32
2.2.3 Types of non-price competition 33
2.2.4 Income elasticity of demand (YED) 34
2.3.1 Productivity 34
2.3.2 Capacity utilisation 35
2.3.3 Efficiency and competitiveness using lean production 36
2.3.4 Impact on costs and sales revenue 37
2.4.1 Globalisation 37
2.4.2 Developed, emerging and developing economies 38
2.4.3 International trade 38
2.4.4 Exchange rates 39
2.5.1 The economic cycle 39
2.5.2 Circular flow of income, expenditure and output 40
2.5.3 Inflation 41
2.5.4 Employment and unemployment 41
2.6.1 Possible macroeconomic objectives 43
2.6.2 Policy instruments 43
2.6.3 Potential policy conflicts and trade-offs 44
Theme 3: The global economy 46
3.1.1 Growing economies 46
3.1.2 Trade and growth 46
3.1.3 Trading blocs 47
3.1.4 Trade policy and trade negotiations 47
3.1.5 Exchange rate changes 48
3.2.1 Conditions that prompt trade 48
3.2.2 Assessing the potential of different economies 49
3.3.1 Responding to global demand 49
3.3.2 Demand-side factors in global markets 50
3.4.1 The impact of multinational corporations (MNCs) 51
3.4.2 Ethical issues 52
3.4.3 Controlling MNCs 52
3.5.1 Employment patterns 53
3.5.2 Wage rates 53
3.5.3 Minimum wage legislation 54
3.6.1 Poverty and inequality 55
3.6.2 Reducing poverty 55
3.6.3 The impact of inequality on economic agents 56
3.6.4 Re-distribution of income and wealth 56
Theme 4: Making markets work 57
4.1.1 Spectrum of competition 57
4.1.2 Barriers to entry 58
4.1.3 Oligopoly 58
4.1.4 Business objectives and pricing decisions 59
4.1.5 Productive and allocative efficiency 59
4.2.1 Market failure 60
4.2.2 Business regulation 61
4.2.3 Arguments for and against regulation 62
4.3.1 Market failure in society 63
4.3.2 Externalities 64
4.3.3 Policies to deal with market failure 64
4.4.1 The AD/AS model 65
4.4.2 Demand-side policies 66
4.4.3 Supply-side policies 67
4.4.4 The impact of macroeconomic policies 68
4.5.1 Risks and uncertainty 68
4.5.2 The role of the financial sector 69
4.5.3 The role of the central bank 70
4.5.4 The Global Financial Crisis 71
5. Assessment guidance 73
5.1 Implications of linear assessment 73
5.2 AS level assessment 73
5.3 A level assessment 74
5.4 Pre-released context (A level Paper 3 only) 74
5.5 Question types 75
5.6 Taxonomy (command words) 75
5.7 Mark schemes 76
6. Quantitative skills 78
6.1 Application of quantitative skills 78
7. Transferable skills 81
7.1 The need for 21st century skills 81
7.2 Cognitive skills 81
7.3 Interpersonal skills 83
7.4 Intrapersonal skills 85
8. Economics B and the EPQ 87
1. Introduction
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1. Introduction
1.1 Research and key principles
Our new AS and A level Economics specifications are designed to support a range of
student interests, learning styles and aspirations for progression.
The specifications have been developed in consultation with the teaching
community, higher education, learned societies and subject associations. Teachers
from a range of schools and colleges – in focus groups, surveys, phone interviews
and face-to-face conversations – have provided feedback at each stage and have
helped us to shape the specifications.
Academics in UK universities have helped us understand how to build on the
strengths of the 2008 A level Economics and Economics & Business specifications,
and advised on how progression to undergraduate study could be improved.
We have commissioned and conducted our own research projects, including
international benchmarking. The specifications are also aligned with our World Class
Qualification principles to ensure they are appropriate for a range of learners.
Drawing on feedback from all parts of the Economics subject community, the 2015
specifications have been designed to support students in developing the following
skills that have been identified as key for progression in economics:
● Thinking like an economist.
● The application of economic concepts and theories to real-world contexts.
● The application of appropriate quantitative skills to relevant economic contexts.
● Engagement with economics through wider reading and an awareness of the
current issues impacting on the subject.
The 2015 specifications have been built on the following key principles:
● Clear specifications. Clear guidance on what students need to learn,
providing clarity for planning, teaching and assessments. The changes we
have made to the structure of the specifications are explained in Section 2.2
(page 7).
● Co-teachable AS and A level courses. The AS level is embedded in the
A level to allow co-teachability. The relationship between AS level and A level
qualifications and considerations for co-teaching the qualifications are detailed
in Section 3 (page 13).
● A distinctly different approach. The specifications promote a distinctly
different teaching and learning approach, requiring the investigation of
economic theory through real-world business contexts and the environment in
which businesses operate. The specifications give students the opportunity to
use economic theory to explain events while simultaneously developing an
understanding of the practical strategies employed by businesses in responding
to these events. Ideas and suggestions for teaching approaches are detailed in
Section 4 (starting on page 15).
● Reflect today’s global economy. Building on the strengths of the
International Business unit in the 2008 Economics & Business course, the new
specifications ensure students develop an understanding of the current global
issues which impact on economies and businesses operating within them.
An overview of the global theme can be found on page 9 and the changes made
to this theme (compared with the 2008 specification) are summarised in the
table on page 10.
1. Introduction
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● Engaging and relevant content. The specifications have been updated to
reflect developments and current issues in the subject area. The introduction of
the financial sector supports student understanding of recent economic events
and the 2008 Global Financial Crisis. The investigation of consumer behaviour,
business decisions, and government objectives and policies ensures students
explore current issues in the subject area. A summary of these changes
compared with the 2008 specification are summarised in the table on page 10.
Ideas and suggestions for teaching approaches are detailed in Section 4, and
further support for the new areas of the specification are available on the
Economics B pages of the Edexcel website.
● Clear assessments. Clear and consistent use of command words across
assessments and between series. Our approach to the assessments, definitions
for the command words and details of how the command words relate to the
assessments are explained in Section 5, starting on page 73.
● Real-world focus. All of the assessments are based on real businesses, real
data and real issues. This helps provide stimulating assessment materials to
cover a wide range of economic issues and business contexts for students to
engage with. This is further supported by a pre-released context. (See
Section 5, starting on page 73.)
● Clear mark schemes. The new mark schemes provide a consistent
understanding of the skills and connections between these skills required for
each question type. Clear wording reflects how teachers and examiners
describe the qualities of student work, so the expectations are clear for
teachers and for markers. Our approach to skills-based mark schemes is
explained in Section 5.7 on page 76.
● Skills for progression. The pre-released context will encourage students to
develop transferable research skills to support study in a wide range of subjects
at university and the transition to employment. These skills include numeracy,
communication, critical thinking, an understanding of the business environment
and commercial awareness. Our approach to skills development is detailed in
Section 5 (pre-release), Section 6 (quantitative skills), Section 7 (transferable
skills) and Section 8 (Economics B and the Extended Project Qualification).
1.2 Support for the new specifications
This Getting Started guide provides an overview of the new AS and A level
specifications to help you get to grips with the changes to content and assessment,
and to help you understand what these changes mean for you and your students.
We will be providing a package of support to help you plan and implement the new
specifications:
● Planning. In addition to the relevant section in this guide, we will be providing
a course planner and schemes of work that you can adapt to suit your
department. We will also be providing mapping documents to highlight key
differences between the new and 2008 specifications.
● Teaching and learning. To support you with delivering the new specifications,
we will be providing suggested resource lists, regular case studies and
suggested activities, a student guide and materials for options evenings.
● Understanding the standard. Exemplar student work with examiner
commentaries for the sample assessment materials will be provided.
● Tracking learner progress. Our ResultsPlus service provides the most
detailed analysis available of your students’ exam performance. It can help you
identify topics and skills where students could benefit from further learning.
Extra assessment materials for A level will also be available to support
formative assessment.
1. Introduction
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● Support. Our subject advisor service, led by Colin Leith, and our online
community will ensure you receive help and guidance from us, as well as
sharing ideas and information with each other. You can sign up to receive
e-newsletters from Colin to keep up-to-date with qualification updates, and
product and service news.
These support documents will be available on the Economics B pages of the
Edexcel website.
2. What’s changed?
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2. What’s changed?
2.1 How have AS and A level changed?
Changes to AS and A level qualifications
From September 2015, A level Economics B will be a linear qualification.
This means that all examinations must be sat at the end of the course.
More information about the implications of the move to linear assessment is
given on page 13.
From September 2015, AS level Economics B will be a standalone qualification.
This means that it cannot be used to contribute towards an A level Economics B
grade. More information about the relationship between AS and A level is given on
page 13.
Changes to subject criteria
The subject content requirements for AS and A level Economics have been revised.
All awarding organisations’ specifications must meet these criteria. The full subject
content document can be found on the Department for Education’s website, but the
boxes below highlight the key requirements.
The following requirements apply to both AS and A level Economics specifications:
AS and A level specifications must require students to:
● develop an understanding of economic concepts and theories through a
critical consideration of current economic issues, problems and institutions
that affect everyday life
● develop analytical and quantitative skills in selecting, interpreting and using
appropriate data from a range of sources
● explain, analyse and evaluate the strengths and weaknesses of the market
economy and the role of government within it
● develop a critical approach to economic models of enquiry, recognising the
limitations of economic models
● understand microeconomic and macroeconomic market models; use the
models to explore current economic behaviour; make causal connections;
and develop an understanding of how the models shed light on the economy
as a whole
● be aware of the assumptions of the model of supply and demand; explain the
way it works using a range of techniques; and use the model to describe,
predict and analyse economic behaviour
● develop an understanding of the benefits of markets and the reasons why
they may fail; understand the implications of market failure for individuals,
firms and government; and recognise the possibility of government failure
● use the aggregate demand/aggregate supply (AD/AS) model and data to
understand why supply-side and/or demand-side policies may be seen as
appropriate ways of managing an economy
● consider the possible impact of macroeconomic policies; recognise the issues
governments face in managing the macroeconomy; argue for different
approaches; and identify criteria for success and evaluate effectiveness
● develop the ability to apply and evaluate economic models as represented in
written, numerical and graphical forms; interpret and evaluate different types
of data from multiple sources; and propose and justify possible responses to
economic issues.
2. What’s changed?
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All AS and A level specifications must cover the following core knowledge,
understanding and skills:
Economic choices and markets
● Scarcity and choice: the basic economic problem, opportunity cost,
specialisation and trade.
● How competitive markets work: allocation of resources, the objectives of
economic agents, supply and demand, elasticity.
● Market failure and government intervention: externalities, alternative
methods of government intervention, government failure.
The national and global economy
● The determination of output, employment and prices: circular flow of income,
expenditure and output, aggregate demand and aggregate supply.
● Economic policy objectives and indicators of macroeconomic performance:
for example, economic growth, employment, inflation, the balance of
payments; potential policy conflicts and trade-offs.
● The global context: international trade, exchange rate changes.
● The application of policy instruments: the nature and impact of fiscal,
monetary, exchange rate and supply-side policies.
The following requirements also apply to A level Economics specifications:
A level specifications must require students to:
● develop an understanding of the role and impact of the financial sector
● recognise the assumptions, relationships and linkages of the possible impacts
of macroeconomic policies
● apply and evaluate economic concepts, theories, methods and models to a
wider range of contexts.
A level specifications must also cover the following core knowledge,
understanding and skills:
Economic choices and markets
● Scarcity and choice: the margin.
● How competitive markets work: productive and allocative efficiency, the
interaction of markets.
● Competition and market power: business objectives, market structures and
their implications for the way resources are allocated, interdependence of
firms.
● Labour market: wage determination, labour market issues, government
intervention.
● Market failure and government intervention: market power, information
asymmetries.
The national and global economy
● Financial sector: the role of the financial sector and its impact on the real
economy, financial regulation, role of central banks.
● Economic policy objectives and indicators of macroeconomic performance:
income distribution and welfare.
● The global context: globalisation, trade policies and negotiations.
2. What’s changed?
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The main changes in the revised subject content are:
● the core content requirements (outlined in the tables above) must constitute
60% of the AS and A level specification content
● there is now defined core content for AS level
● the financial sector and labour markets are included within the core content
● there is greater emphasis on the application of appropriate quantitative skills in
a range of economic contexts. The assessment of these skills will include at
least Level 2 mathematical skills as a minimum of 15% of the overall AS and
20% of the overall A level marks.
Students are expected to accomplish the following quantitative skills as part of their
AS and A level study:
● calculate, use and understand ratios and fractions
● calculate, use and understand percentages and percentage changes
● understand and use the terms mean, median and relevant quantiles
● construct and interpret a range of standard graphical forms
● calculate and interpret index numbers
● calculate cost, revenue and profit (marginal, average, totals)
● make calculations to convert from money to real terms
● make calculations of elasticity and interpret the result
● interpret, apply and analyse information in written, graphical and numerical
forms.
Note: emboldened skills are not a requirement in the AS level.
More information about the application of quantitative skills is given in Section 6
on page 78.
Changes to Assessment Objectives
The AS and A level Economics Assessment Objectives have been revised.
The objectives have been made more explicit to exemplify the skills developed
through the AS and A level specifications. The Assessment Objectives are the same
for both AS and A level but the weightings are different.
AO1
AS 25–35%
A level 20–30%
Demonstrate knowledge of terms/concepts and
theories/models to show an understanding of the
behaviour of economic agents and how they are affected
by and respond to economic issues AO2
AS 25–35%
A level 20–30%
Apply knowledge and understanding to various economic
contexts to show how economic agents are affected by and
respond to issues
AO3
AS 15–25%
A level 20–30%
Analyse issues within economics, showing an
understanding of their impact on economic agents
AO4
AS 15–25%
A level 20–30%
Evaluate economic arguments and use qualitative and
quantitative evidence to support informed judgements
relating to economic issues
2. What’s changed?
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2.2 Changes to the Pearson Edexcel AS and A level Economics B specifications
Economics B is a new qualification and would be a suitable successor to our
Economics & Business qualification.
Students apply economic theory to real-life business contexts to help them
understand the complexities of the world around them. Students also use data to
help them analyse markets and economies, and how governments try to
influence both. Students use economic theory to explain events and develop an
understanding of the strategies employed by businesses in responding to these
events.
The A level specification is structured into four themes. In this structure students
are introduced to core economic concepts and develop a broad understanding of
economic issues and how these relate to business contexts, before building on this
core knowledge and understanding to consider more complex issues and wider
contexts. In this thematic approach, progression is continuous as students develop
their knowledge and understanding throughout the course.
In developing the 2015 specifications we have retained the strengths of the
2008 specification:
● integrated approach
● engaging and updated content
● real-world contexts
● global focus
● pre-released context in A level
● AS and A level courses designed to allow co-teachability.
Changes have been made to the specification content and the assessments to
ensure the revised subject content and assessment requirements for economics are
met, and to bring the specifications up-to-date.
The layout of the new specification ensures that the required content is clear and
comprehensive. Section 4 of this guide gives further examples and guidance for
each topic area.
Specification overview
The specification content is organised into a coherent and logical structure to
enable students to build breadth and depth of knowledge throughout the course.
Theme 1 and Theme 2 focus on how markets work and introduce students to
economics through building knowledge and understanding of core microeconomic
and macroeconomic concepts and how these relate to business contexts.
Breadth and depth of knowledge and understanding with applications to more
complex concepts and models is developed through Theme 3 and Theme 4 content,
which focus on the dynamic nature of the economy in terms of influences and
changes.
The charts on page 8 provide an overview of the AS and A level specifications,
indicating the relationship between the two. (Further guidance on the relationship
between AS and A level is provided in Section 3, starting on page 13.)
2. What’s changed?
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The A level is structured into four themes with three externally assessed exams:
Theme 1
Markets, consumers and firms
1.1 Scarcity, choice and potential conflicts
1.2 Enterprise, business and the economy
1.3 Introducing the market
1.4 The role of credit in the economy
1.5 Market failure and government
intervention
1.6 Revenue, costs, profits and cash
Theme 2
The wider economic environment
2.1 Business growth and competitive
advantage
2.2 Firms, consumers and elasticities
of demand
2.3 Productive efficiency
2.4 Life in a global economy
2.5 The economic cycle
2.6 Introduction to macroeconomic
policy
Theme 4
Making markets work
4.1 Competition and market power
4.2 Market power and market failure
4.3 Market failure across the economy
4.4 Macroeconomic policies and impact on
firms and individuals
4.5 Risk and the financial sector
Theme 3
The global economy
3.1 Globalisation
3.2 Economic factors in business
expansion
3.3 Impact of globalisation on global
companies
3.4 Impact of globalisation on local and
national economies
3.5 Global labour markets
3.6 Inequality and redistribution
Paper 1
Markets and how they work
Assessing Theme 1 and Theme 4
Paper 2
Competing in the global economy
Assessing Theme 2 and Theme 3
Paper 3
The economic environment and business
Assessing all themes
The AS level is embedded in the A level: Theme 1 and Theme 2 comprise the same
content for both the AS and A level specifications. There are two exams:
Theme 1
Markets, consumers and firms
1.1 Scarcity, choice and potential conflicts
1.2 Enterprise, business and the economy
1.3 Introducing the market
1.4 The role of credit in the economy
1.5 Market failure and government
intervention
1.6 Revenue, costs, profits and cash
Theme 2
The wider economic environment
2.1 Business growth and competitive
advantage
2.2 Firms, consumers and elasticities
of demand
2.3 Productive efficiency
2.4 Life in a global economy
2.5 The economic cycle
2.6 Introduction to macroeconomic
policy
Paper 1
Markets, consumers and firms
Assessing Theme 1
Paper 2
The wider economic environment
Assessing Theme 2
2. What’s changed?
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Changes to specification content
Changes have been made to the specification content, both to ensure the revised
subject content requirements for economics are met and to refresh the
specifications to bring them more up-to-date in response to our research findings;
for example, by incorporating current issues such as the digital economy.
The following content has been included in addition to the core content specified in
the DfE subject criteria (outlined on pages 4 to 6). The content outlined in the table
below has been included for contextualisation and for developing depth. This is
achieved through integrating economic theory with business contexts. This allows
students to explore the complexities of real-world problems and develop an
appreciation of a range of differing perspectives.
Specification content Rationale for inclusion
Business contexts Business contexts are integrated throughout
the course to provide a contextualised
approach to economics, with less emphasis on
abstract models and more emphasis on real-
world case studies. This demonstrates how
economics can be used to understand the
business world, and how the business world
provides relevance and engagement to the
study of economics.
The inclusion of business contexts supports
key stakeholder findings, supports progression
to university study and supports students in
making sense of the world in which they live.
This approach was pioneered by the Nuffield
Foundation.
Global focus Theme 3 focuses on global economies and
the global context. This demonstrates how
economic concepts and theories can be
applied in different and real-world contexts.
This supports student appreciation of the
contribution of economics to the wider social
and economic environment, and broadens
their knowledge and understanding beyond the
UK context.
The table on page 10 is an overview of the specification content. Economics B
would be a suitable successor to the 2008 Economics & Business specification;
detailed mapping of individual topics from the 2015 specification to the 2008
Economics and 2008 Economics & Business specifications can be found on the
Economics B pages of the Edexcel website.
2. What’s changed?
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2015 specification content Highlights
Theme 1
Markets, consumers and firms
1.1 Scarcity, choice and potential
conflicts
1.2 Enterprise, business and the
economy
1.3 Introducing the market
1.4 The role of credit in the economy
1.5 Market failure and government
intervention
1.6 Revenue, costs, profits and cash
This theme introduces students to the
economic problem, market failure and
government intervention.
Highlights include:
consumer choices and enterprise
in the economy
the market economy and how
market forces shape the way in
which firms meet consumer
demand
the role of banks in the economy.
Theme 2
The wider economic environment
2.1 Business growth and competitive
advantage
2.2 Firms, consumers and elasticities
of demand
2.3 Productive efficiency
2.4 Life in a global economy
2.5 The economic cycle
2.6 Introduction to macroeconomic
policy
Macroeconomic policy is introduced in
this theme, and students are
introduced to the economic cycle and
the global economy.
Highlights include:
how consumers are influenced by
and respond to changes in prices
and incomes
small firm survival in competitive
markets
an introduction to developed,
emerging and developing
economies.
Theme 3
The global economy
3.1 Globalisation
3.2 Economic factors in business
expansion
3.3 Impact of globalisation on global
companies
3.4 Impact of globalisation on local and
national economies
3.5 Global labour markets
3.6 Inequality and redistribution
Building on Theme 2 content,
students develop their understanding
of the global context. The content has
broadened to developing economies
such as Africa. Students are also
introduced to global labour markets
and inequality and redistribution.
Highlights include:
the impact of globalisation and
expansion into new markets
global employment
poverty and inequality.
Theme 4
Making markets work
4.1 Competition and market power
4.2 Market power and market failure
4.3 Market failure across the economy
4.4 Macroeconomic policies and impact
on firms and individuals
4.5 Risk and the financial sector
This theme has a greater focus on
market failure and macroeconomic
policies, building on knowledge and
understanding from Theme 1.
Students are also introduced to risk
and the financial sector.
Highlights include:
market power
market failure and macroeconomic
policies
the Global Financial Crisis.
2. What’s changed?
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Changes to assessment
The assessment structure for AS and A level Economics B is outlined in the charts
below and on page 12. More detail on the assessment for each component is given
in Section 5, starting on page 73.
There are three A level papers, each comprising 100 marks and 2 hours in
duration.
Paper 1
Markets and how they work
Total marks: 100
Weighting: 35%
Exam time: 2hrs
Questions drawn from Theme 1
and Theme 4 content.
Section A: Based on stimulus material.
One data-response question comprising a
number of parts.
Section B: Based on stimulus material.
One extended open-response question.
Section C: Based on stimulus material.
One extended open-response question.
Paper 2
Competing in the global
economy
Total marks: 100
Weighting: 35%
Exam time: 2hrs
Questions drawn from Theme 2
and Theme 3 content.
Section A: Based on stimulus material.
One data-response question comprising a
number of parts.
Section B: Based on stimulus material.
One extended open-response question.
Section C: Based on stimulus material.
One extended open-response question.
Paper 3
The economic environment
and business
Total marks: 100
Weighting: 30%
Exam time: 2hrs
A broad context will be issued in
November of the previous year.
Questions drawn from all
themes.
Section A: Based on stimulus material.
This section will focus on the broad pre-released
context.
One data-response question comprising a
number of parts, including one extended
open-response question.
Section B: Based on stimulus material.
This section will focus on a strand within the
broad pre-released context.
One data-response question comprising a
number of parts, including one extended
open-response question.
2. What’s changed?
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There are two AS papers, each comprising 80 marks and 1.5 hours in duration.
Paper 1
Markets, consumers and
firms
Total marks: 80
Weighting: 50%
Exam time: 1hr 30
Questions drawn from Theme 1
content.
Section A: Based on stimulus material.
One data-response question comprising
a number of parts.
Section B: Based on stimulus material.
One data-response question comprising
a number of parts.
Section C: Based on stimulus material.
One extended open-response question.
Paper 2
The wider economic
environment
Total marks: 80
Weighting: 50%
Exam time: 1hr 30
Questions drawn from Theme 2
content.
Section A: Based on stimulus material.
One data-response question comprising
a number of parts.
Section B: Based on stimulus material.
One data-response question comprising
a number of parts.
Section C: Based on stimulus material.
One extended open-response question.
Changes have been made to the approach of the AS level and A level papers to
ensure the assessments are clear and consistent, enabling students to understand
the skills they are required to demonstrate without overly focusing on exam
technique. The changes summarised below are explained in detail in Section 5
starting on page 73:
● A reduction in the variety of command words used, careful definition of the
skills that comprise each command word, and consistent application of the
command words within and across assessments.
● Skills-based mark schemes that focus on the qualities students are required
to demonstrate in their answers, rather than the quantity of points within
responses. Clarity of the skills comprising each command word reflects how
teachers and examiners describe the qualities of student work, so the
expectations are clear for teachers and for markers, reducing subjectivity.
● Short-answer questions that focus on knowledge, understanding and
application. These ensure the integration of assessment objectives within
questions so they are not considered in isolation, support the application of
knowledge to real-business contexts, and require students to demonstrate a
holistic understanding of economics through making connections between their
knowledge of economic theories and concepts and business contexts.
● A focus on the skills required for progression to university and employment
within the pre-released context.
3. Planning
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13
3. Planning
3.1 Planning and delivering linear AS and A level courses
Both the AS and the A level qualifications are linear, with assessments taken at the
end of the course. There will be no January assessment window.
For AS, therefore, centres can decide whether to teach Theme 1 and Theme 2 in
parallel or sequentially, based on their timetabling and staffing situation.
For A level, centres will need to decide whether they are delivering the A level on
its own or co-teaching AS and A level students together, as this may impact on the
approach to teaching in the first year. See Sections 3.2 and 3.3 below for further
guidance on this.
With a linear A level, consideration will need to be given to leaving sufficient time
for revision in the second year, particularly to revisit topics studied in the first year.
The structure of the course supports continuous revision as students develop
knowledge and understanding from Theme 1 and Theme 2 to Theme 3 and
Theme 4.
3.2 Delivery models
One of the first decisions centres will need to make is the approach to offering AS
and A level. The benefits of a linear A level course include more flexibility in
structuring the course, more time for teaching in the first year, greater student
maturity when completing assessments and more opportunity for students to make
links between different elements of the course. On the other hand, it means that all
students must embark on a two-year course; any student who leaves the course
after one year, for whatever reason, will leave with no qualification.
Centres wishing to offer the AS alongside the A level will need to decide whether
they can run separate AS and A level classes, or whether AS and A level students
will need to be taught in the same class. Co-teaching means that students may be
able to delay their decision on whether to take the full A level until they have
experience of the subject content; many students are learning Economics for the
first time at this level. Those who do go on to the full A level would still have to be
examined on all the A level content at the end of the second year and their AS
grade would not count towards their A level grade.
Centres are advised to check the funding implications of students delaying AS and
A level decisions.
Centres co-teaching the AS will follow a thematic approach, delivering Theme 1 and
Theme 2 in the first year. The themes could be run in parallel or taught
sequentially, depending on what is most appropriate for staffing and timetabling
within each centre. Centres offering only the A level may also start with Theme 1
and Theme 2 in the first year, but could decide to structure the course differently
and adopt an integrated approach, for example by bringing aspects from Theme 4
into the course earlier. Suggested different approaches to structuring the course
are given in the separate course planner documents (available on the Economics B
subject pages of the Edexcel website). The chart on page 14 illustrates the different
options described above.
3. Planning
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14
Sept
2015
Jan
2016
June
2016
Sept
2016
Jan
2017
June
2017
AS level
only
Theme
1
Theme
2
Enter for AS
level qualification
Co-teaching
AS and A
level
Theme
1
Theme
2
Enter for AS
level qualification
Theme
3
Theme
4
Enter for
A level
qualification
Thematic
approach to
A level
Theme
1
Theme
2
Mock for Themes
1 and 2
Theme
3
Theme
4
Enter for
A level
qualification
Integrated
approach to
A level
Themes 1, 2, 3 and 4 (integrated approach) Enter for
A level
qualification
3.3 Co-teaching AS and A level
The AS level is embedded in the A level: Theme 1 and Theme 2 have the same
content for the AS and A level specifications. This means that Theme 1 and
Theme 2 can be co-taught for AS and A level.
The AS and A level assessments are differentiated. Content in Theme 1 and
Theme 2 may be assessed at both AS and A level, but the style of questions may
be differentiated. For example, students may be asked to define a concept from
Theme 1 in the AS level assessments but may be asked to explain the impact of
this concept in the A level assessments. Students may be required to perform a
calculation at AS level but may be asked to complete an additional step (such as
interpret the result of this calculation) at A level.
3.4 Suggested resources
To support in the teaching and learning of the new specifications, we will provide a
comprehensive suggested resources list to capture a range of sources you may find
useful. The list will be regularly updated and can be viewed on the Economics B
pages of the Edexcel website.
4. Content guidance
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4. Content guidance
This section provides ideas and suggestions for teaching approaches and is
not intended to be prescriptive. The specification should be referred to as
the authoritative source of information.
Theme 1: Markets, consumers and firms
This section provides ideas and suggestions for teaching approaches for Theme 1
and is not intended to be prescriptive. The specification should be referred to as the
authoritative source of information.
1.1 Scarcity, choice and potential conflicts
This section introduces the basic economic concepts and what the study of
economics entails. These are the fundamental concepts which will reoccur
throughout all the themes, and students will be expected to be able to use
these concepts in both economic and business contexts. Scarcity and choice
should be taught from a theoretical viewpoint but students should be able to
apply these to the choices made by individuals, businesses and governments
on a day-to-day basis.
Examples of conflicts which arise from scarce resources should be developed,
and students will be expected to evaluate the strategies used and the impact on
economic agents such as consumers, producers and the government.
The objectives of firms should be considered for different sizes of businesses
ranging from small sole traders to large multinationals. Students should develop
an appreciation that not all firms aim to maximise profit and that there may be
ethical considerations for social enterprises such as One Water. Economic agents
(stakeholders) are integral to the course, and the different stakeholders and how
the actions of different economic agents impact on them should be examined.
1.1.1 The economic problem
a Students should develop an understanding of the economic problem,
understanding that there are unlimited wants but a finite amount of resources.
Factors of production (in 1.2.3) should be introduced here, including capital,
land, labour and enterprise. These can be introduced with examples of different
types of businesses.
b Economics is the ‘science of choice’ and students need to be aware of the
choices which have to be made at local, national and international level.
The concept of a trade-off and how this applies to the different economic agents
should be investigated.
c Opportunity cost is fundamental to the study of economics and business.
Students need to have a theoretical understanding of this concept and be able
to apply the concept to unseen contexts in terms of decision making by the
different economic agents, for example the opportunity cost to an individual of
remaining in higher education or more complex scenarios such as the impact of
changes in government spending.
1.1.2 Business objectives
a The financial objectives of profit maximisation, sales maximisation and
satisficing should be explored. The different financial motives as firms expand
can be investigated, and students can explore the difference between profit
maximisation and profit satisficing for different local, national and international
businesses.
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16
b Many small businesses are set up with the intention of survival in the first year
and sole traders can be examined to explore this objective. For example,
students could investigate the reasons for the sole trader’s existence in the
local economy. The likelihood of failure within the first two years can be
investigated.
It is essential that other objectives are also considered for different types of
businesses. As the business grows, market share and cost efficiency may
become more important than survival. More ethical considerations, such as the
impact on other stakeholders, and why some businesses have differing
objectives should also be examined. Social objectives and non-financial
objectives, such as employee welfare and customer satisfaction, are becoming
just as important for many firms, especially in very competitive markets.
1.1.3 Stakeholders (economic agents) and their objectives
a Businesses have different types of internal and external stakeholders, with
different interests and priorities. An economic agent, or stakeholder, is defined
as any individual or group with an interest in the business and economy.
Stakeholders are individuals, groups or organisations that are affected by the
activity of the business. Understanding internal and external stakeholders
(economic agents) is essential to the course and students should explore a
range of stakeholders, including owners/shareholders, employees (directors,
managers, employees), customers, suppliers, the local community, the
government, banks and other financial lenders, pressure groups and the
environment.
b Owners have a significant say in how the objectives of the business are decided
but other groups also have an influence over decision making. For example,
the directors who manage the day-to-day affairs of a company may decide to
make higher sales a top priority rather than profits. Businesses that ignore the
concerns of customers find themselves losing sales to rivals. In a small
business, the most important or primary stakeholders are the owners, staff and
customers. In a large company, shareholders are the primary stakeholders as
they can vote out directors if they believe they are running the business badly.
c It is impossible for any business to meet the demands of all its stakeholders –
they invariably conflict. A firm must find a way of prioritising stakeholder
demands and therefore balancing out these competing requirements, which
involves judgement. It can be argued that there is no scientific way of doing
this; someone in the organisation has to make a decision and this decision may
be based on a wide range of information they have been provided with.
Different stakeholders have different objectives. The interests of different
stakeholder groups can conflict. For example, owners generally seek high
profits and so may be reluctant to see the business pay high wages to staff.
A business decision to move production overseas may reduce staff costs. It will
therefore benefit owners but work against the interests of existing staff, who
will lose their jobs. Customers also suffer if they receive a poor service.
d Corporate social responsibility (CSR) has become an important consideration for
many large multinational corporations. It is often part of a business’s strategic
objectives, and many businesses report on their CSR activities and use it as a
source of positive public relations (PR). It would be useful to look at a range of
businesses that have CSR policies to compare and contrast them, for example
BP, BAT, Disney, Tesco and The Body Shop.
4. Content guidance
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1.2 Enterprise, business and the economy
This section considers the role and importance of the entrepreneur in the
economy. Entrepreneurs create businesses by combining the factors of
production: land, labour and capital. Students will need to understand this
process, and that the quality and amount of these resources can determine the
success of an economy. The impact of the division of labour and of specialisation
on businesses and individuals is considered, before a first look at the wider
economy.
This section is an introduction to what these terms mean and a consideration of
their impact on businesses. Deeper understanding of their causes and policy
solutions is explored in Theme 4.
1.2.1 Role of an entrepreneur in the economy
a Many small businesses are formed by entrepreneurs and there are many
examples of local businesses which have been set up by sole traders or
partnerships. The initial idea has come from the entrepreneur. One of the many
roles of the entrepreneur is to organise the factors of production (land, labour
and capital, and enterprise) into a form of business ownership. This may be
from using existing factors of production, such as taking over an already-
established business, or starting from scratch and producing a completely
innovative idea. There are many examples which illustrate both paths –
Dragon’s Den is a good example of both types of creative destruction.
Innovation and creative ideas can come from within a larger business
organisation rather than just from an entrepreneur running their own business.
Creativity and enterprise are encouraged by many small and large
organisations. Examples of this include 3M and Google.
In 3M (considered one of the most innovative companies in the world),
employees are allowed to spend up to 15% of their time working on ideas that
they think might benefit the company. If an idea is proven viable, the company
officially funds it. One such funding programme is called the Genesis Grant,
which offers researchers up to $85,000 to carry their projects past the
idea stage.
Similarly, Google has set up a formal process for encouraging internal
entrepreneurship. Several years ago, Google implemented its concept of
Innovation Time Off to encourage creativity among its employees and support
continuous innovation. Around 20% of an employee’s time was to be spent on
company-related work that was of personal interest. Almost half of Google’s
new product launches – including Gmail, Google News and AdSense – are said
to have originated from the Innovation Time Off programme.
b Once the business has been established, the entrepreneur has the responsibility
for all aspects of the business from finance to marketing. The established
business will then look to expand to new locations or develop the business in
new ways.
c Adding value is essential for the success of any entrepreneurial activity and
there are many examples of how different types of businesses add value from
selling their output for more than the cost of the inputs. Students could
consider basic examples, such as how a manufacturing firm like Rolls Royce can
charge such high final prices for their cars, and service sector businesses such
as Toni & Guy in hairdressing. The ways of adding value should be examined
and evaluated for their effectiveness in the marketplace.
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1.2.2 Entrepreneurial motives
This section can be taught with objectives and different business objectives
in 1.1.2.
a The reasons why entrepreneurs set up businesses should be examined: what
drives a person to take risks and run their own business as opposed to being an
employee within a business? Students should recognise that motives can be
divided into two types: financial and non-financial. Many students will be able
to identify the main financial reasons for running a business and will be able to
give examples of successful entrepreneurs who have become wealthy from
their business, such as Peter Jones and Deborah Meaden.
For many firms, large and small, profit acts as an incentive. This could be the
only income for sole traders, compared with large multinational corporations
who have shareholders and investors to satisfy in terms of dividends and
retained profits. Money and profit are great incentives to entrepreneurs and
profit can act as a signal to enter a marketplace.
b Non-financial motives are equally important and students should be encouraged
to identify the many different non-financial motives which drive many
entrepreneurs. There are many businesses which highlight these types of
motives. A good starting point is looking at The Body Shop and Innocent
Drinks, which have much more of an ethical/social motive but which did also
both start off with financial motives. Students could also look at local
businesses and their main reason for existence, and whether any have been set
up for independence and the ability to work from home or juggle family
commitments.
1.2.3 Factors of production
a The factors of production are another fundamental economic concept which can
be applied to either a product or a service and helps to support the theory of
the allocation of scarce resources. Enterprise is the creative idea or risk taken
by an entrepreneur. The quality of the idea often affects the success or failure
of a business. The entrepreneur has to organise the other three factors of
production in order to produce goods and services and, if successful, receives
profit.
b Capital can be divided into two types: financial and physical capital. Financial
capital is used to purchase physical capital that goes into making other things.
Physical capital consists of premises, machinery, equipment, tools, etc.
Providers of capital receive interest.
Land is classified as the natural resources needed for the production of goods
and services. Resources include timber, land, fisheries, farms and other similar
natural resources. Land is usually a limited resource and, although some
natural resources – such as timber, food and animals – are renewable, the
physical land is usually a fixed resource. Some countries have many natural
resources while others are limited in what they can use. Iceland has a plentiful
supply of geothermic energy. Geothermal power facilities currently generate
25% of the country’s total electricity production.
Labour represents the human capital available to transform raw or national
resources into consumer goods. Human capital includes all able-bodied
individuals capable of working in the nation’s economy and providing various
services to other individuals or businesses. This factor of production is a flexible
resource as workers can be allocated to different areas of the economy for
producing consumer goods or services. Human capital can also be improved
through training or educating workers to complete technical functions or
business tasks when working with other economic resources.
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1.2.4 Specialisation
a The economic theory of specialisation goes back to Adam Smith in his book
The Wealth of Nations and the making of pins. In the famous example of a pin
factory, Smith explained how co-operation between workers in the factory to
divide tasks between them raised their combined output. He went on to explain
how, by trading with others, both at home and abroad, we could specialise our
own production, and society as a whole would benefit from higher incomes and
standards of living. The concept of division of labour is the assignment of
different parts of a manufacturing process or task to different people in order to
improve efficiency. This then enables the worker to exchange their services for
other goods and services. A simple starting point can be the different
departments within a school in terms of subject specialists, or a simple
manufacturing process such as in a car plant. Students should be able to assess
the advantages and disadvantages to employers and employees.
b A modern economy is based on specialisation, trade and exchange. The division
of labour is a form of specialisation. Employees specialise in given occupations
and machines specialise in certain tasks. Regions and countries specialise in
producing goods and services. If people and other resources concentrate on
things which they do relatively well, then output increases and economic
growth occurs.
1.2.5 The wider economic environment
a This topic introduces the wider business environment in which all businesses
operate. This is to give students an understanding of the factors which impact
on businesses and their decisions. These will be examined in much more detail
in Theme 4. Students do not need to know what causes these changes; the
focus here is on how they will affect a business.
Interest rates are vital for many businesses in terms of the cost of borrowing as
well as the impact on demand of changes in interest rates. Students will need
an understanding of how changes in interest rates may affect consumer
demand within an economy and, in turn, how this will affect businesses.
Changes in interest rates will also affect the level of borrowing and investment
a business is willing to undertake.
Exchange rates can be a confusing topic for many students. The acronym
‘SPICED’ (Strong Pound: Imports Cheap, Exports Dear) may help students to
remember and understand. They will need to know how a change
(appreciation/depreciation) in exchange rates will affect both importers and
exporters.
Students should understand the difference between direct and indirect taxation
and know the main examples of each, such as income tax, corporation tax, VAT
and excise duty. They do not need to know the reasons for taxation or any
further detail other than to understand how changes in the level of taxation will
affect a business. An increase in taxation on consumers will reduce their
disposable income and so alter demand for goods and services; an increase in
corporation tax will affect levels of retained profit and may even discourage
investment or location within a region or country.
Unemployment will have an impact on a wide range of businesses in terms of
demand and availability of labour. If unemployment increases this is likely to
lead to a fall in consumer incomes and consumer confidence, which will reduce
demand for many goods and services. On the other hand, those businesses that
are looking to recruit should have a wider pool of labour to choose from and
there will be less upwards pressure on wages.
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Inflation causes problems within an economy for a number of reasons.
For individual businesses it can mean uncertainty, rising costs and falling
demand as consumers’ real incomes decrease. Many workers react by striving
to gain wage increases which increase production costs and reduce profitability
unless the business can increase prices. Inflation has redistributive effects and
therefore alters patterns of consumer spending, which affects the demand for
many goods and services. For the whole economy, it reduces competiveness
with other countries.
1.3 Introducing the market
This section covers all aspects of the market, from basic definitions, through the
forces that allocate resources, to an understanding of how to use market
information to improve the prospects of the firm.
This is an important section as much of what follows in this theme and Themes 2,
3 and 4 rely on a sound understanding of the workings of the market. Students
need not just the theoretical background of the market but must also be able to
apply it to real-life situations. They may be required to use suitably labelled
demand and supply diagrams to show the impact of changing market conditions.
1.3.1 Demand
a This section introduces the idea of demand and that it comes from consumers
who make decisions about where to use their income in order to maximise
satisfaction. This leads to an inverse relationship between price and quantity
that gives rise to the downward sloping demand curve.
b Measuring the relationship between price and quantity demanded provides
information that is used to create a demand schedule, from which a demand
curve can be derived. Once a demand curve has been created, other
determinants can be added to the model. Factors affecting demand include
price and non-price factors such as changes in income, preferences, price of
substitutes, price of complements and expectations.
c Students need to be clear about the distinction between the movement along a
demand curve caused by a change in price and a shift of the demand curve
caused by a change in one of the factors of demand.
d Students are required to illustrate the impact of changes in a range of factors
on a diagram, showing the relevant inward/outward shift of the curve. They
should also be able to explain why it has happened.
1.3.2 Supply
a This section introduces the idea of supply and that it comes from producers who
make decisions about how much to produce based on price and their own costs.
This leads to a positive relationship between price and quantity that gives rise
to the upward sloping supply curve.
b Supply can be measured for a single factor of production, for a single firm, for
an industry and for a whole economy. Once a supply curve has been created,
other determinants can be added to the model. Factors affecting supply include
price and non-price factors such as the availability of factors of production, new
firms entering the market, weather and other natural factors, taxes on products
and subsidies.
c Students need to be clear of the distinction between the movement along a
supply curve caused by a change in price and a shift of the supply curve caused
by a change in one of the factors of supply.
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21
d Students are required to illustrate the impact of changes in these factors on a
diagram showing the relevant inward/outward shift of the curve. They should
also be able to explain why it has happened. (Note that although students may
need to show in a diagram the impact of indirect taxes and subsidies, they will
not need to consider the impact of tax incidence.)
1.3.3 Price determination
a Students need to be able to combine the demand and supply curves,
understand equilibrium and be able to produce a fully labelled diagram.
b Students will need to be able to produce diagrams showing the impact on price
and quantity of excess supply and excess demand.
c Students will need to understand the nature of equilibrium and how the market
will clear to restore equilibrium following situations where there has been
excess supply or demand.
d Students will need to be able to illustrate the impact on a market of a change in
the factors of demand or supply, showing the resulting inward/outward shift of
the demand/supply curve and the impact on equilibrium price and quantity.
Students will also be required to explain what has happened.
e Students should understand that the demand and supply model of the market
is just that: a model that simplifies complex situations to aid understanding.
Only one variable is examined at a time and the model is analysed under
conditions of ceteris paribus (assuming other variables remain constant).
It is also only a representation of one particular moment in time and likely
to change.
1.3.4 Price mechanism
a A market answers three basic questions. What do we produce? How do we
produce it? And for whom do we produce it? The price mechanism plays a
crucial role in answering these questions and in allocating resources. High
prices and profits attract resources to increase market supply and satisfy high
demand. In doing so, prices fall and consumer satisfaction increases. In a
reverse process, it is the presence of low prices and losses that drive resources
out of areas that are no longer demanded towards more profitable uses.
Markets also have a rationing function in that scarcity is reflected in high prices,
effectively rationing consumption.
b Markets respond to changes in demand by changes in price, caused by a shift
of the demand curve and a movement along the supply curve. This will alter
profitability for producers and they respond by increasing/decreasing
production.
c The price mechanism fulfils the same function in local, national and global
markets, but the results can vary as each market will reflect different conditions
of demand and supply, leading to different outcomes. This can be illustrated by
the housing market where, for example, house prices in London far exceed
those in the rest of the country. Students will need to know the differences
between a mass market and a niche market, and how these differ in terms of
products/services, customers and their marketing strategies. Students should
have an understanding that price may be more crucial in a mass market and
that a niche market may set higher prices.
d Students should be introduced to the idea that markets have the potential to
grow and expand. Students could be asked to examine a range of markets and
then comment on which ones are more likely to grow, suggesting reasons why.
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22
1.3.5 Understanding the consumer
a Students should be aware of the nature and purpose of market research in
understanding the consumer, the difference between primary and secondary
research, the advantages and disadvantages of each, and when they are most
likely to be used. The same applies to quantitative and qualitative research.
It may be worth using Steve Jobs’ famous quote about Apple here: ‘A lot of
times, people don’t know what they want until you show it to them.’
b Market research has limitations. Care must be taken with the questions used in
order to yield the right information. Sampling techniques need to be carefully
considered to avoid error and bias. Students should be able to assess the value
of market research to a business.
c Students need to understand the role of market segmentation in categorising
consumers, considering how and why it is used. Different ways of segmenting
the market should be explored and students should appreciate that
segmentation can be done on a global or local scale. Segmentation should also
be linked to mass/niche markets.
1.3.6 The competition
a Market positioning is how individual products or brands are seen in relation to
their competitors by the consumers. Finding and achieving the right market
position can be crucial to the success of a business. Some businesses
successfully re-position themselves to boost declining sales, such as Skoda
and Lucozade.
Market mapping is the use of a grid showing two features of a market, such as
price and consumer age. Individual brands or businesses are added to the grid
to show products in relation to each other. It can also show potential niches or
gaps in the market. Students should be aware of its usefulness and limitations.
b Competitive advantage is any feature of a business that enables it to compete
effectively with rival products. An advantage may be based on price, quality,
service, reputation or innovation. In competitive markets, all businesses must
strive for competitive advantage in order to avoid falling sales and rising losses.
Students could explore a range of businesses and identify the source of their
competitive advantage.
c Product differentiation may be used to achieve a competitive advantage.
This can be based on features of the product such as price, innovation or
quality or consumers’ perceptions such as brand image and style. Successful
differentiation can mean the ability to charge a higher price and increase
profitability.
d Students need to understand the concept of added value and how it can help
increase sales. As well as the technical definition, they should be able to link it
to differentiation and competitive advantage, and to recognise it from real-life
examples.
e Pricing decisions are a crucial part of marketing and students should know the
advantages and disadvantages of different pricing methods. These should
include: competitive pricing, cost-plus pricing, penetration pricing, premium
pricing, price skimming and predatory/destroyer pricing.
f The concept of changing markets can be developed here with a more detailed
look at markets that are dynamic, are static, or may even shrink and disappear.
Once again, practical illustrations would be useful here.
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1.4 The role of credit in the economy
Firms need finance for a number of different reasons: to cover start-up costs, to
ensure adequate cash to operate or for day-to-day costs, and to invest in
expanding the business. Although firms need to borrow for capital investment
and working capital, borrowing can be both costly and risky. Students will
develop an understanding of the role of banks in the economy and the
importance of liability.
Starting a new business involves numerous costs. Some of these will be large
one-off payments for things like premises and equipment and can be
considerable. The business may also need finance to keep paying costs such as
wages and raw materials until enough income comes in from its sales.
If all goes well, the business will be successful and make a profit. However, this
does not mean that the business will have enough cash on a day-to-day basis to
pay its bills. It may well need additional finance to provide sufficient working
capital to cope with any cash-flow problems.
There may come a time when the business will want to expand. This may involve
extra finance to pay for it. Firms must decide between different types of credit
and finance, and be aware of the challenge of obtaining credit.
1.4.1 Role of banks in the economy
a Banks have traditionally been intermediaries that provided an indirect link
between savers who want a secure haven for their money and businesses that
need finance for a variety of reasons. This role, although still important, has
been complemented by other sources of finance.
b Considering what credit is, the different ways banks provide it, and why it is
essential for the economy is a good starting point for examining the role of
banks in providing credit. There are several ways in which credit helps the UK
economy. Loans provide businesses with expansion capital. A secured loan is
one that is guaranteed by some form of asset, such as buildings and property.
An unsecured loan is not backed in the same way.
Business account services enable a business to transact its day-to-day affairs,
for example paying wages into employee’s accounts, paying bills and taking up
periods of credit when applicable. Businesses are able to use bank services
such as standing orders and direct debits to pay water, electricity, business
rates and other regular bills. Overdraft facilities enable a business to have a
short period of credit to smooth out cash-flow difficulties. The business
arranges an overdraft limit with its bank and is permitted to borrow up to the
arranged overdraft ceiling. Cheques, credit cards and bank drafts enable a
business to smoothly manage its day-to-day payments and transactions. Bank
statements enable the business to keep a regular check on its accounting
position.
The bank will also provide systematic and ongoing advice, particularly to small
businesses and start-ups. For example, the bank will provide detailed advice on
how to construct and organise a business plan. Banks also provide long-term
finance in the form of mortgages for the purchase of land and property.
Merchant banks and issuing houses also support companies in the management
of share issues, for example by arranging for financial institutions to underwrite
a new share issue.
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c Students should explore what interest rates are and what is meant by
collateral in terms of deciding the best source of credit for a business that
needs additional capital or funds. Students should also consider how banks
charge interest on different forms of credit. For example, a bank will lend a
business a given sum for a specified period of time, such as £6,000 for 2 years.
The business will then repay the capital sum in instalments with interest added,
such as £360 per month. The rate of interest on unsecured loans is higher than
for secured loans. For overdrafts, interest is charged only on the amount
overdrawn each day. For example, if the business was only overdrawn by £100
for 1 day of the year it would pay 1/365th of the annual interest rate for £100.
1.4.2 Risk and liability
a Running a business will involve taking calculated risks. There will be degrees of
risk that entrepreneurs will need to take over the course of the business. This
could be giving up a well-paid, secure job to run a business or could be linked
to the risk from credit and capital borrowing to fund expansion.
b Students should develop a basic understanding of the legal consequences of
why some businesses choose to become a limited company as opposed to
remaining as a sole trader. Advantages and disadvantages of the different
types of liability should be covered. Students should understand that a wider
range of sources of finance are available to limited companies compared with
smaller unlimited enterprises.
1.4.3 Types and sources of credit and the impact of credit
within the economy
Students need to understand the types and sources of credit and the type and
sources of finance; understand when these sources of credit and finance might be
the most appropriate to use; and any advantages/disadvantages in doing so.
a Credit is available through different methods:
Loans involve the use of someone else’s money for a period of time, with
regular repayments including additional interest.
An overdraft is a facility from the bank that allows a firm to spend more
than it has in its account up to an agreed limit.
Trade credit is the period of time allowed by a business after supplying
another business with goods or services before payment is due.
b High street and commercial banks are some of the main sources of credit
available to firms. A report by venture capital group Albion Ventures shows that
other lending methods – including mortgages (7%), cash loans from friends
(5%) and equity investments from venture capital and angels investors (6%) –
have a long way to go before they catch up.
c Other types of finance are available:
Venture capital is funding provided by specialist firms or individuals in
return for a proportion of the company’s shares.
Share capital is finance raised by selling shares in the company and can
apply to both a private and public limited company.
Leasing is a long-term rental agreement that allows businesses to use
assets without having to pay for them outright.
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d Other sources of finance includes the following:
Owner’s capital or equity is the money that the owner(s) have available to
put into the business.
Retained profit is all the money that is left after all deductions (including
tax, interest and any dividends paid to shareholders) have been taken away
from total sales revenue. It can then be re-invested into the business.
Sale of assets refers to when the business sells assets (things of value such
as buildings, land and vehicles) in order to raise money. The business will
often lease the assets back again.
Individual investors such as friends and family may form part of the finance
required for a business. There are many advantages and disadvantages of
using this source of finance which should be investigated, and this may lead
to conflict within the stakeholder groups depending on the type of business
organisation.
Online collaborative funding, also referred to as crowdfunding, has become
a new source of finance for both business start-ups and expansion for
existing businesses. Crowdfunding is the practice of funding a project or
venture by raising monetary contributions from a large number of people,
typically via the internet. There are many examples on the internet of
successful online collaborative funding, and the advantages and
disadvantages can be considered.
e The Institute of Directors has reported that obtaining credit is one of the
biggest challenges faced by small and medium businesses and that having
a good credit rating is often one of the most difficult things to obtain.
Most businesses experience some problems getting paid on time by their
customers and, with debt recovery, good credit control helps to prevent this
becoming a serious problem. Six out of ten of small firms have a poor credit
rating, according to credit reference agency Graydon UK. Having a good credit
score is not only important to enable a business to borrow funds, but it also
affects the ability to secure good terms on trade credit.
1.5 Market failure and government intervention
Theme 1 has already explored the workings of the market in a mostly theoretical
manner; for example, that the free market allocates resources in response to
consumer demand and that free markets work efficiently. This section introduces
the idea that markets often do not produce the required results and actually
create problems that need to be addressed.
The first topic covers what these problems are and how markets fail. In order to
correct these market failures, some form of government intervention is needed.
The second topic considers how governments can and do intervene. Government
intervention does not always solve the problems and can make them worse or
create problems elsewhere. This is the concept of market failure.
This section should refer to real-life examples wherever possible.
1.5.1 Market failure and externalities
a Students need to know and understand the terms private costs, external costs
and social costs, and have a practical grasp of real-life examples.
b Students need to know and understand the terms private benefits, external
benefits and social benefits, and have a practical grasp of real-life examples.
c Once students understand the theory, they could be asked to apply these terms
to the production and consumption of something such as cars or alcohol, and to
identify examples of cost and benefit for each.
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d The market economy has a number of strengths and students should appreciate
the benefits that it can bring in terms of competition, innovation, lower costs,
lower prices, service, quality and the efficient allocation of resources.
e It can also have weaknesses which can be seen as market failure. Market
failure occurs when there is an inefficient allocation of resources: the market
fails to produce enough of something that we do need or produces too much of
something that we do not need. Although merit and public goods are not
required here, a discussion of these would be useful.
1.5.2 Government intervention and failure
a When markets fail, the government intervenes to try to correct it. Students
could look at various case studies to appreciate the range and scope of
intervention in various contexts, such as the labour market and the minimum
wage, agricultural subsidies, healthcare and pollution.
b Governments have several options when it comes to correcting market failure.
They can regulate or control the production of externalities; they can pass
laws and impose penalties for failure to comply. Taxes and subsidies act as
disincentives and incentives to alter consumption/production levels. They can
create voluntary codes of conduct and encourage compliance. Students
should be familiar with how these would correct market failure and with
examples of each.
c In reality, intervention often leads to government failure. Again, students will
need to understand why this can happen and use real-life examples. Interfering
with the workings of a market can lead to a misallocation of resources or, while
the failure is corrected, other problems/failures being created. For example, the
‘help to buy’ scheme designed to make it easier for first-time house buyers to
purchase a home has arguably led to sharply rising house prices.
d Students should explore various contexts to understand government failure in
various markets. Subsidies can lead to over-production of agricultural products;
the minimum wage can cause costs of production to rise; regulation and/or
legislation can be costly and time-consuming; and taxation on price inelastic
products has little impact other than to increase government revenue.
1.6 Revenue, costs, profits and cash
This section introduces students to financial techniques for measuring the way a
business is performing. Businesses need to be able to measure their performance
and know when to take remedial action. Students will be expected to know how
to make a range of calculations, apply them and interpret them. They will need to
know what the results show and be able to make comparisons and draw
conclusions.
1.6.1 Revenue and costs
a–c Students need to be familiar with these calculations. Students will be required
to make the calculations and use the calculations to interpret data.
1.6.2 The relationship between revenue and costs
a–d Students need to be familiar with these calculations. Students will be required
to make the calculations and use the calculations to interpret data.
e Students should understand the assumptions that are made when using
break-even analysis and how this limits the usefulness of the analysis.
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1.6.3 Profit and loss
a The profit signalling mechanism can act as an incentive to enter and exit a
market. If a market is seen as profitable, then this is a flag to other producers
to enter the market in order to seek profits. The ease of entry and exit depends
on the barriers to entry for each individual market.
b–e In this section, students need to be familiar with the statement of
comprehensive income (profit and loss account) and how all of its components
are arrived at. They will also need to be able to calculate profit margins and
comment on their significance. The final section is about how firms increase
profit; students should be able to suggest and evaluate different strategies for
doing this, such as increasing price or reducing costs.
1.6.4 Business survival and cash flow
a Many otherwise profitable businesses cease trading because their cash flow has
dried up. Students must be able to understand the difference between profit
and cash flow and why cash-flow management is a crucial business skill.
b The importance of cash flow for business survival cannot be underestimated
and the difference between profit and cash can be explored here. Cash is the
lifeblood of any business and a profitable business can still go into liquidation
due to poor cash flow. Many businesses may continue to trade in the short to
medium term even if they are making a loss. This is possible if they can delay
paying creditors and/or have enough money to pay variable costs. However,
no business can survive long without enough cash to meet its immediate needs.
The phrase ‘cash is king’ is often quoted for the importance of business
survival. The emphasis here is on simple cash-flow forecasts; complex
spreadsheets are not required. However, students are required to interpret
cash flow: they should understand the components of cash inflow and cash
outflow, and be able to calculate net cash flow and move balances forward.
c Students are required to use a forecast to recognise when a problem might
occur and know what to do about it; it is a tool in identifying credit
requirements and minimising risk.
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Theme 2: The wider economic environment
This section provides ideas and suggestions for teaching approaches for Theme 2
and is not intended to be prescriptive. The specification should be referred to as the
authoritative source of information.
2.1 Business growth and competitive advantage
This section focuses on the motivations for the growth of firms and the methods
firms may use to achieve growth. The objectives of firms, including profit
maximisation are explored, along with how to increase brand awareness, market
share and market power. Research and development (R&D) is examined in the
context of establishing and maintaining competitive advantage. The increasing
importance of buying and selling online is explored and the section ends with a
look at the reasons why small firms continue to thrive despite the advantages
accruing to large firms.
2.1.1 Growth
a Economies of scale build on the work on revenues and costs explored at the
end of Theme 1. They lead to a reduction in average costs and the various
reasons for this should be explained, including technical, managerial, financial,
risk bearing, purchasing and marketing economies of scale. Internal and
external economies of scale also need to be defined along with minimum
efficient scale of production (MES). A range of examples will make
understanding easier.
When considering why firms grow it is important to recognise that there is, in
most cases, a desire to increase their market power. Market power is about the
extent to which one business can affect what happens in the market, this is
about being able to have more control over what goes on rather than having to
‘catch-up’ with other firms. This includes pricing and marketing.
The impact of increasing market share can be explored through examples such
as Kraft’s takeover of Cadbury in 2009, where there has been an increased
product range, exploitation of brand recognition and evidence of reduced
competition.
Links should be made between growth and achieving or increasing competitive
advantage, for example how lower costs may lead to higher profits if prices
remain the same or lower prices set which may lead to increased demand and
higher revenues, both of which can lead to increased profitability.
b Diseconomies of scale can be explored through case study materials and
examples. These might include famous cases such as General Motors. Internal
communication becomes more difficult as the size of the organisation grows;
mistakes may be made, causing loss of output or orders. A simple game of
‘Chinese whispers’ can reinforce this point!
Skills shortages have an impact on the productivity, wage costs and the
international competitiveness of firms. The impact of skills shortages is to drive
up wages, as firms compete to attract scarce employees. In other words,
demand for labour exceeds supply.
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c Corporate culture includes: shared values of a firm or workplace; the implicit
beliefs and norms that influence all aspects of working life within a firm; and
the day-to-day behaviour of employees – ‘the way we do things round here’.
Corporate culture can be extremely important for determining the long-term
success or failure of a firm and is often influenced by the leadership of the firm
and the strength of teamwork. Google is a good example of a dynamic
corporate culture.
2.1.2 Methods of growth
a Organic (internal) growth should be compared with inorganic (external) growth
and the processes of both explored. The advantages and disadvantages of each
should be looked at as well as the distinction between a merger and a takeover.
Examples might include Pfizer and AstraZeneca, Disney and Pixar for inorganic,
and JCB, Poundland and Subway for organic growth.
b Horizontal, vertical and conglomerate integration need to be explained and the
differences and advantages discussed. Examples are useful here and might
include Morrisons and Safeway for horizontal integration, oil companies such as
BP and Shell for vertical integration and Tata for conglomerate integration.
2.1.3 Research and development (R&D) and innovation
R&D is investment in technical and/or scientific research undertaken with a view to
introducing new or improved products and services or improving methods of
production.
a The most successful firms systematically pursue innovation (Apple, Samsung)
and it becomes part of their corporate culture (Google). Many large
multinational corporations are outsourcing and/or offshoring their R&D
expenditure to cheaper locations where they benefit from tax concessions,
external economies of scale and lower labour costs.
b R&D is another way of increasing market power. R&D can serve to differentiate
the product from that of rival firms, potentially increasing brand loyalty and
revenues. Good examples include the smartphone industry, where the dynamic
market is characterised by rapid product development.
c Product innovation is usually associated with relatively small, often subtle
changes to the characteristics and performance of a product. Process innovation
involves changes to the way in which production takes place to become more
efficient. It can also cover business logistics; for example the huge investment
by supermarkets in stock control and distribution systems and innovation in the
management of employees.
d R&D leads to economic growth and from the state’s point of view this has clear
benefits such as rising GDP and real incomes and falling unemployment. The
problem is that R&D can be expensive and not enough is undertaken (there are
links here with Theme 1, section 1.5) so the state provides funding. A
knowledge of the many grants and government support schemes available is
not required, it is the reasons for, and the effects of, state funding that are
important. However students may find it helpful to look at some examples on a
regional, national and EU level.
e The product life cycle and the impact of each stage – development,
introduction, growth, maturity and decline – on costs, revenues and profits
should be covered; the traditional diagram is useful here.
Extension strategies are intended to prolong the useful life of a product before
it goes into decline and firms use marketing techniques to improve sales.
Examples include: advertising, price changes, adding value, entering new
markets at home or overseas and new packaging and branding.
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2.1.4 How the digital economy affects markets and firms
a The impact of the internet, including web-based technologies, on firms and
consumers has been, and continues to be, significant. The selling and buying of
goods and services electronically has changed the nature of many markets in a
variety of ways. One of the most significant has been the increase in consumer
knowledge, as the widespread use of price comparison sites and consumer
reviews has, to some extent, served to reduce the asymmetrical relationship
between supplier and consumer.
Viral marketing is a strategy by which a firm, creates a campaign focused on
causing viewers of that promotion to spread it by sending it to friends by e-
mail, text or social media. Some famous viral marketing campaigns include
Touch of Gold (Nike), the Threshers 40% Off Voucher and ‘Real Beauty
Sketches’ (Dove).
Platforms such as Facebook and Twitter provide businesses with not only a way
of promoting their business to increase sales and awareness, but also a way of
getting valuable feedback from customers. Businesses can also benefit from
sites such as LinkedIn which enables professionals to make useful contacts all
over the globe. Social media marketing is the process of gaining customer
information through social media sites such as Facebook or Twitter with
promotions or more targeted micromarketing messages.
b Micromarketing is usually associated with e-commerce and can be contrasted
with mass marketing. Many students will be familiar with micromarketing
through their use of social networking and other web media, where they are the
target of individualised marketing such as special offers and voucher codes.
The digital economy has affected some retail sectors more than others.
Amazon, eBay, Asos and Ocado are obvious examples here. The success of
firms such as Vente-privee and SportPursuit and their online ‘flash sales’ of
branded, surplus stock could be examined as a case study.
The rise of the digital economy has also seen a rise in the demand for staff with
digital skills, which may be a problem for some businesses as they either
struggle to find suitable staff or have to face increased labour costs to recruit
and retain them. (There is a link here to the first section on growth and skills
shortages.)
c The long tail theory suggests that consumer choice is widened through online
retailing. Firms can maintain and increase sales revenue by selling ‘fewer of
more products’ as opposed to the mass market model of ‘selling more of fewer
products’. The advantage to a firm of online retailing is that it gives access to a
potential worldwide market and the consumer has a worldwide market to
choose from.
The ways in which small firms, perhaps supplying niche products, are able to
exploit wider geographical markets through online selling can be explored by
case studies such as The Cambridge Satchel Company.
d The digital economy has caused major changes to the way we access and
consume products and services. It has affected prices and choice for the
consumer; whether the outcomes are positive or negative for all parts of
society in both the short and long term is a useful discussion to have. The
disappearances of famous names such as Virgin, Blockbuster, Peacocks and
Comet have all been blamed to some extent on the digital economy.
For businesses the issues are about profit and loss and survival, the digital
economy has opened up markets to more competition. For some this has meant
new opportunities, increased sales and profitability but for others it has meant
falling profit margins, a struggle to compete and even failure. In many ways, it
could be argued that the impact on markets and firms has been to accelerate
the process of ‘creative destruction’.
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Those ‘traditional businesses’ that have survived and even increased
profitability, have done so by embracing features of the digital economy with a
multi-channel approach including online stores and phone apps. Examples
include Starbucks and its rewards app and UK fashion retailer Oasis with its
ecommerce site, mobile app, and brick-and-mortar locations.
2.1.5 How small firms compete
a Students should investigate how and why small firms continue to survive and
thrive given the cost advantages enjoyed by large firms. Small businesses are
able to exploit their size to offer a more individualised product and better
customer experience. This can lead to increased customer loyalty and higher
revenues.
There are links here with the previous section on the digital economy which has
enabled the creation of many new small firms. The reasons for the survival of
small firms in competitive markets could be explored with case studies and
examples.
2.2 Firms, consumers and elasticities of demand
The focus of this section is on the relationship between the firm and the
consumer. Activities that firms engage in to maximise demand for goods and
services, as well as the factors which impact on the consumers’ willingness and
ability to purchase those goods and services, are explored. Pricing strategies are
considered, as is the idea of non-price competition.
The concept of price elasticity of demand is used to help students understand and
analyse the relationship between price level, demand and sales revenue. The
concept of income elasticity of demand is used to help students understand and
analyse the relationship between income level, demand and sales revenue.
Much of this section builds upon the work on demand curves covered in Theme 1,
it may be useful to remind students of the basics before starting this section.
Diagrams should be used to help explain the effects of the variables discussed.
2.2.1 Price elasticity of demand (PED)
a The price of a product or service can be a key part of a marketing strategy; a
firm needs to know what will happen to quantity demanded if it changes the
price. PED measures the responsiveness of quantity demanded to changes in
price. The extent of this responsiveness depends upon the circumstances of the
firm. In a mass market where there is a lot of competition demand is much
more sensitive to a price change. In a niche market where factors other than
price take precedence this responsiveness is likely to be limited or of little
importance.
b There needs to be a basic understanding of how PED is calculated. This should
always be to one decimal place and shown as a negative number (this shows
that there is an inverse relationship between price and quantity demanded.)
The formula is:
price in change %
demanded quantity in change %
Students may need some basic revision on percentage change and should be
given plenty of practice with this calculation.
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c If PED = 0 then demand is said to be perfectly price inelastic. This means that
demand does not change at all when the price changes.
If PED is between 0 and 1 (i.e. the percentage change in demand is smaller
than the percentage change in price), then demand is price inelastic.
If PED = 1 (i.e. the percentage change in demand is exactly the same as the
percentage change in price), then demand is said to be of unitary price
elasticity.
If PED > 1, then demand responds more than proportionately to a change in
price and is price elastic.
d Factors influencing PED include: the number and closeness of substitutes; the
degree of necessity of consumption or whether the good is a luxury; the
percentage of a consumer’s income allocated to spending on the good; the time
period allowed following a price change; whether the good is subject to habitual
consumption. Care should be taken to distinguish between the PED for an
individual good and the PED for the whole market.
e In general, firms selling price inelastic goods or services can increase sales
revenue by increasing price. By contrast, firms selling price elastic goods or
services can increase revenue by decreasing price. This can best be illustrated
through a normal supply and demand diagram showing the relative change in
revenue (P × Q) when there is a movement along a relatively steep and a
relatively flat demand curve.
2.2.2 Competing on price
a Pricing strategies are key marketing tools and students need to know the
different types, when they are the most suitable to use and the implications for
the business.
Cost-plus or ‘mark-up’ pricing is widely used in retailing, where the retailer
wants to know in advance what the gross profit margin of each sale will be.
This reduces uncertainty as the firm will know that its costs will be covered
if the good is sold. This approach can lead to pricing that is uncompetitive
and firms may see a loss of market share, revenues and profits. A simple
example can be used to illustrate the calculation required.
Price skimming involves setting a high price before other competitors enter
the market. It is most commonly used when a new product is launched and
faces little or no competition, usually due to technology changes or
extremely distinctive product design or branding. Price skimming is usually
a short-term strategy as the profit signalling mechanism attracts new
entrants to the market and increases competition.
Penetration pricing sets a low initial entry price, usually lower than the
intended established price or existing competition, to attract new
customers. The strategy aims to encourage customers to switch to the new
product because of the lower price and then to increase price when
customer loyalty is established.
Destroyer or predatory pricing (in theory illegal in the UK) is when a
dominant firm in a sector deliberately sets prices very low in order to
restrict, prevent or eliminate competition. The price set might even be free,
or lead to losses by the predator.
Competitive pricing is where firms set prices based on those of their
competitors. This is often done where the competing products are similar in
nature.
Psychological pricing is a pricing tactic designed to appeal to customers’
emotional rather than rational responses to the pricing of goods and
services. Pricing at £12.99 or £99.99 is often an indication of such a tactic.
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b Students should be aware of the various factors that will determine the way
that price is set.
Number of USPs/amount of differentiation: The more unique the product or
the higher the degree of differentiation, the higher the price (premium
pricing) is likely to be in relation to the competition. Products that have little
in the way of USPs or differentiation may have to rely on low prices to beat
their rivals.
Price elasticity of demand: Low PED will see higher prices set and high PED
will see competitive based pricing or even undercutting to increase sales.
Strength of brand: Strong brands have a low PED and therefore premium
pricing is likely.
Stage in the product life cycle: In the introductory stage penetration pricing
could be used if the product has a lot of competition or price skimming if it
is a new innovative product and likely to face high initial demand. In the
growth and maturity it is more likely to be competitive based. In the decline
stage pricing is likely to become lower to keep sales going and to sell off
existing stock.
Costs and the need to make a profit: If profit is important then price may be
set to increase profitability; this may well take the form of cost-plus pricing
c The impact of social trends is considered in 2.1.4 and should be applied to
changes in pricing in this section.
2.2.3 Types of non-price competition
a Product differentiation involves anything from branding and packaging, to
advertising and product placement. It is anything which makes the product in
some way different to that of a competitor. Successful product differentiation
may shift the demand curve outwards (right) increasing demand at all price
levels or make the demand curve steeper (more price inelastic) or do both.
Advertising can be informative and/or persuasive. The impact of advertising
and other promotional methods upon the demand curve can be summarised as
follows:
To increase demand at all price levels, shifting the demand curve outward
(right) and increasing equilibrium price and quantity, ceteris paribus.
To make demand more price inelastic, allowing firms to charge a premium
price to maximise revenue and profit or pass on increased costs in the form
of higher prices without seeing a fall in revenues. In this case the demand
curve will be steep and a change in price will have a proportionately smaller
impact upon quantity demanded.
Distribution methods are changing rapidly and there is a link here to the digital
economy in the previous section. Amazon can be used here, particularly their
Prime service and planned one hour service. Effective distribution can be a
crucial competitive advantage and a form of product differentiation.
b Marketing involves a range of approaches including those detailed above. Which
ones are used or take precedence over the others depends on the nature of the
product or service, the potential consumer and the market the firm operates in.
It may be that the pricing strategy used is the most important element,
perhaps the product itself is the most important with its differentiation or USP
being a key element, it may be that the way in which it is promoted or
advertised becomes crucial and even the distribution method may be
important. Students need to be able understand why a particular approach or
mix of approaches may be the most appropriate for a particular good or
service.
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2.2.4 Income elasticity of demand (YED)
a YED measures the responsiveness of quantity demanded to changes in income.
Individual incomes changing will have little effect on YED. It is when incomes
change for sections of the population that it begins to affect a business.
Businesses may need to react to changes in incomes and plan accordingly.
The usual cause of this is a change in the economy or government policy.
A recession, for example, may witness increasing demand for budget or value
products and decreasing demand for luxury or expensive products. A cut in
income tax may have the opposite effects.
b There needs to be an understanding of how YED is calculated (this should
always be to one decimal place).
The formula is:
income in change %
demanded quantity in change %
c The magnitude of the coefficient and whether the coefficient of income elasticity
is negative or positive is very important.
Inferior goods have a negative YED: demand falls as income rises. This does
not mean poor quality (which is a common source of misunderstanding).
Normal goods have a positive YED: as consumers’ income rises, more is
demanded at each price level.
If YED is 0, demand does not change when income rises. This is zero income
elasticity.
If YED is between 0 and 1, demand rises by a smaller proportion than income.
This is income inelastic.
If YED = 1, demand changes proportionately with income. This is unit income
elasticity.
If YED > 1, demand changes by a greater proportion than income. This is
positive income elasticity.
d Normal necessities have an income elasticity of demand of between 0 and +1.
Normal luxuries have an income elasticity of demand > +1, meaning demand
rises more than proportionate to a change in income.
A crucial determinant of YED is whether the good is a luxury or a necessity;
luxuries are income elastic and have high positive values e.g. exotic holidays,
designer goods, necessities are income inelastic and have a low positive value
e.g. public transport, petrol.
2.3 Productive efficiency
The section focuses on the ways in which firms can reduce their costs in order to
become more competitive. Productivity is examined and the strategies and
procedures available to firms to improve productivity are explored. The impact of
relative efficiency on sales revenue and costs is also considered.
2.3.1 Productivity
a Productivity measures the efficiency with which inputs are converted into
outputs. As inputs represent costs, productivity is important for individual
firms and for the international competitiveness of the economy as whole.
Costs are an important variable in the establishment of prices and in the
calculation of profit.
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The most common measure of productivity is labour productivity. This is simply
the output per person (worker) in a fixed time period. Simple numerical
examples can be used to illustrate this point: if Susan produced 20 sandwiches
an hour and Jayne 30 sandwiches an hour, then Jayne is said to have higher
labour productivity than Susan. Labour productivity is often used to compare
the relative efficiency (or otherwise) of different countries or companies
(usually in the same sector). Improved productivity can lead to:
lower average costs: cost savings might be passed on to consumers as
lower prices, which leads to rising demand and output, and an increase in
employment
improved international competitiveness: productivity growth can lead to
increased competitiveness of firms in global markets
higher profits: efficiency increases can lead to higher profits for firms which
may in turn be reinvested to support the long-term growth of the firm
higher wages: firms can afford higher wages when their workers are more
efficient and this may lead to a higher standard of living
economic growth: if an economy can raise the rate of growth of productivity
then the trend growth of national output (GDP) can increase.
Due to the relationship between productivity and costs, firms work to increase
productivity in a variety of ways.
Physical capital refers to a factor of production (or inputs into the process of
production) such as machinery, buildings or computers – any physical asset
that is not used up in the production of a product. A growth in physical capital
stock leads to a rise in capital per employee which may, in the long term, lead
to increasing productivity.
Human capital is the people employed and trained by the firm to produce
output. Human capital is developed and increased through investment in the
human agent, the idea being that investment in training increases the stock
of human capital. Access to finance is an important variable in determining the
level of investment available to firms and therefore has a significant impact
upon productivity.
Technology and technological changes may be related to physical capital but
are often associated with increasing productivity. Process innovation may also
increase productivity as resources (both physical and human) are allocated
more efficiently to produce goods and deliver services.
b Labour intensive production uses more people than machines. Labour intensive
production usually takes place where there is a plentiful supply of appropriately
skilled labour, minimising production costs. Services tend to be
characteristically labour intensive.
Capital intensive production uses more machines than people. Capital intensive
production usually takes place where there is relatively cheap and easy access
to capital for investment, minimising production costs.
2.3.2 Capacity utilisation
a Capacity utilisation is the amount of goods and/or services that can be
produced by a firm (or an economy – industrial capacity) in a given time
period, if current factors are used to their fullest extent. The percentage of
capacity in use is often expressed as the capacity utilisation rate.
A firm can be said to be operating at full capacity if all the resources available
to a firm are being used to the fullest extent all of the time.
Spare capacity means that for some of the time some resources are not being
used and therefore there is a loss of potential output.
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b Investment and technological change can increase the capacity of a firm. It can
also increase the capacity of the economy as a whole. Capacity utilisation
measures what proportion or percentage of the maximum possible output of a
firm is actually produced.
100output potential Full
output Current
c Under-utilisation of capacity means fixed costs will be shared across a lower
level of output. This means average fixed costs (fixed costs per unit of
production) are likely to increase. This increase in unit costs either reduces
profitability or results in higher prices (to cover the increased unit costs) and a
loss of competitiveness. On the other hand some under-utilisation can be
beneficial. It gives the business flexibility; special orders from customers can be
quickly accommodated and there is time to service and repair machinery and
plant without having to stop production.
Over utilisation of capacity means that the business is trying to produce more
than its capital equipment was designed for. This too can result in an increase
in average costs as bottlenecks, breakdowns and overcrowding reduce
efficiency. Once again this means that the business is not as competitive as it
could be.
d Improving capacity utilisation is linked to increasing productivity. Various
options are open to a firm, including: extending the product range; finding new
markets; increasing demand by promotion; or producing goods from other
businesses (e.g. own brand products).
2.3.3 Efficiency and competitiveness using lean production
Lean production is about minimising waste at every stage of production or service
delivery to minimise costs. Various strategies are used in lean production, most of
which are now commonly used in manufacturing.
a Quality control refers to the traditional method of checking that products are of
a good enough standard. Inspection of products takes place during and at the
end of the operations process. This approach can be useful for firms that rely
on unskilled or temporary staff but it has several drawbacks; for example, it
accepts that mistakes are inevitable and does not solve the problem of what
has caused the mistake in the first place
Quality assurance (QA) implies a commitment to collaboration between the
people responsible for design, production and marketing. They will work
together towards increased quality and reliability. Everyone in the business has
to become more aware of the need for quality. Instead of monitoring output, a
QA department will be drawn into the design process and the setting up of the
production system: quality becomes central to the basic organisation of
production and is checked at every stage.
Total Quality Management (TQM) is a philosophy that tries to generate both an
individual and a collective responsibility for quality at every level. Each
department or team is seen as having responsibility for quality in both products
and services. It is expected to regard the department handling the next stage
of production as its customer, whose needs must be satisfied.
b Kaizen is a Japanese word meaning ‘continuous improvement’ and it
emphasises getting things right first time. In practice, it seeks to make every
worker responsible for quality control, encouraging all workers to make
suggestions for improvements. It is based on the idea that lots of relatively
small, cheap changes can have a huge effect in terms of minimising waste and
costs, and increasing productivity.
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c Just in time (JIT) is simply an application of lean production to stock control.
The JIT process focuses on frequent reordering of relatively small quantities of
stock thus reducing the costs of holding stock and relies on a strong working
relationship between a firm and its suppliers.
d Competitive advantages from lean production are:
A reduction in costs, which may allow firms to spend more on product
development or marketing or can allow the firm to reduce prices which,
depending on PED for the product, could increase market share and sales
revenue for the firm.
Improved quality and therefore greater customer satisfaction.
Labour becomes more involved, therefore more motivation and less staff
turnover.
2.3.4 Impact on costs and sales revenue
a Any steps a firm takes to increase productivity can serve to reduce average unit
costs. This can result in higher profits which may be re-invested to further improve
efficiency or in product development. It may also mean the company can reduce
prices in relation to competitors and increase market share or sales revenue.
b Linked to the above is the likelihood that minimising waste and improving
efficiency may develop a growing reputation for quality, developing and enhancing
brand loyalty (making PED more inelastic) and increasing market share.
c Reduced lead times (the time delay between making a decision and
implementing the decision) may make a firm more market orientated. This is
most important in dynamic markets where firms have to be able to respond
quickly to changes in consumer demand. For example, the high-street fashion
industry has to be able to respond quickly to changes in consumer tastes and it
is vital that firms are able to keep lead times short in order to maintain
competitive advantage.
2.4 Life in a global economy
Globalisation is the ongoing integration of countries on a political, economic and
social level. A definition from Peter Jay, the former BBC Economics Editor, is:
‘The ability to produce any good (or service) anywhere in the world, using raw
materials, components, capital and technology from anywhere, sell the resulting
output anywhere, and place the profits anywhere.’
Although it is not in itself new, the last three decades have seen a huge increase
in globalisation, leading to increasing trade and rising prosperity across the
globe, with the growing power of transnational corporations producing and selling
in developing economies and emerging markets. China and India, for example,
have become significant economic powers, and other countries are growing
rapidly. Allied with rapid technological change and improved transport and
communications, the global economy has seen a major structural change which is
continuing to affect individuals, firms and economies.
2.4.1 Globalisation
a Globalisation can be examined in terms of three dimensions that effectively
relate to and support each other: increased investment flows between
developed and, more recently, developing economies; the increasing
importance of trade as a proportion of global trade; and the increasing
movement of people within and between trading blocs and national boundaries.
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b Trade liberalisation is characterised by the removal of many restrictions on the
movement of goods and services between nations and trading blocs.
Capital market liberalisation is seen as a means of stimulating economic growth
in developing countries by removing regulations and restrictions on capital
flows between countries. The idea was to encourage more foreign investment
which would stimulate economic growth.
In the aftermath of the break-up of the Soviet Union and important political and
economic reforms in China, the economic map of the world is being redrawn.
Detailed knowledge of these events is not required but the implications of this
for other economies should be explored.
The ‘death of distance’, characterised by developments in telecommunications
and transportation, has contributed to the growth of offshoring and outsourcing
and, in turn, to the increased importance of transnational corporations.
It is always interesting to examine data on the GDP of countries and the sales
revenue of transnational corporations.
2.4.2 Developed, emerging and developing economies
a Rapid GDP growth in developing economies can be compared with the relatively
low growth rates in developed economies, such as the UK. The validity of using
GDP as a measure of economic development can also be introduced here.
b GDP per capita can be compared with other measures of economic development
and discussed in terms of living standards. Students should be aware of how
the Human Development Index (HDI) has changed over time – it is currently a
composite statistic of life expectancy, education and income indices.
c The characteristics of developed economies can be compared with those of
developing economies. The concept of emerging markets can also be explored
from the perspective of opportunities for trade.
d The mean and median incomes of developed and developing economies can be
compared, and the measures themselves evaluated in terms of their strength
as indicators of development and living standards for populations.
2.4.3 International trade
a Classical theories of absolute and comparative advantage can provide a neat
way into discussions about specialisation and trade. Students will not be
expected to know about these for the exam but they should understand the
underlying principle that by specialising in what they do best (or least badly)
and then trade, there will be gains. The advantages and disadvantages of
specialisation should be covered with practical examples.
b The different types of trading blocs and their impact on member countries and
those outside should be covered. These include an alliance of countries that
want free trade between themselves, free trade areas, common markets and
the single market. The potential impact of future enlargement or the creation of
new trade blocs should also be considered.
c The importance of trade in terms of creating economic growth for nations and
globally could be discussed. Historical data on the relationship between global
economic growth and GDP can be examined. After 2008 there was a sudden
decline in international trade and a rise in protectionism, as well as changing
patterns of FDI.
d The distinction between visibles and invisibles needs to be made so there is
some understanding of the meaning of trade deficits and surpluses which can
be developed in section 2.6.1.
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e The availability of cheap imports on consumer choice and living standards
should be discussed, as well as the implications of dependence on imported
goods (including the impact on domestic producers and employment).
2.4.4 Exchange rates
a The exchange rate is the value of one currency expressed in terms of another;
for example €1 = US$1.42. Depreciation and appreciation of currency over
time, caused by changes in the demand for and supply of a currency, should be
explored and can be represented in diagrammatic form. Simple numerical
examples need to be worked through.
b Students may be asked to assess the impact of changing exchange rates on
different firms in different markets both directly and indirectly. This should
include any potential impact on sales, output, costs and competitiveness in both
domestic and international markets.
c–d Students should be able to understand and interpret exchange rate data in the
form of tables or graphs and appreciate its significance or otherwise.
Effective Exchange Rate (EER) index is a weighted index of a currency’s value
against a basket of currencies. The weights are based on the importance of
trade between the one country and its trading partners so may vary over time
with changing patterns of trade.
2.5 The economic cycle
This section extends 2.4 to look at the macroeconomic environment within which
firms operate. Established macroeconomic concepts are defined and developed to
encourage students to understand that firms do not operate in isolation from
broader national and international economic forces and trends.
2.5.1 The economic cycle
a The theory is that real output in the national and global economy does not rise
or fall at a uniform rate. Economies experience a more or less regular trade
cycle where the rate of growth of production, incomes and expenditure
fluctuates over time. Students need to understand a simple diagrammatic
representation of the economic cycle and be aware of how it changes over time
and the different stages involved.
b A boom is when real national output is rising strongly at a rate faster than the
trend or long term rate of growth. In boom conditions, real output and
employment increase and the level of aggregate demand (AD) for goods and
services is rising.
Characteristics of an economic boom include: strong and rising level of
aggregate demand, usually driven by consumption; rising employment and real
wages; rising demand for imports; rising government tax revenues; increasing
profits, share prices, dividends and investment; and increased capacity
utilisation (economy close to full capacity) with resultant demand-pull and/or
cost-push inflation (‘overheating’).
c A recession means a fall in the level of real national output, a period of negative
economic growth (technically defined as two consecutive quarters of negative
GDP growth). In a recession, national output declines leading to a contraction in
employment, incomes and profits.
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Characteristics of an economic recession include: declining aggregate demand
(AD); rising unemployment; a fall in business confidence, profits and a
decrease in private investment expenditure; de-stocking and heavy price
discounting by firms in order to maintain cash flow; reduced inflationary
pressure and a fall in demand for imports; increased government borrowing
due to lower tax receipts and increased spending on welfare payments; and
lower interest rates from the central bank as a policy response to declining
output.
d The impact on firms will depend on the good or service, as well as the type of
market and the extent of fluctuations in output, income and prices. Firms
supplying income elastic goods are likely to see significant changes in demand
and revenues during a recession or a boom. Firms supplying income inelastic
goods may see less change in demand. Firms selling inferior goods may see
demand increase during recession and decrease during a boom period.
2.5.2 Circular flow of income, expenditure and output
a Definitions and explanations of the circular flow of income would include the
basic description that households provide the factors of production and receive
income. They buy the goods and services produced by firms which use the
income received. In this way, the income circulates throughout the economy.
Often the best way to understand the circular flow of income is in diagrammatic
form and there are many simple representations of the circular flow of income
available online.
b The withdrawals (leakages) from the system are savings, taxes and imports.
The injections are investment, government spending and exports. In theory,
the economy is described as being in equilibrium when leakages are equal to
injections. By altering the relative levels of injections and/or withdrawals the
level of economic activity can be influenced.
c Aggregate demand (AD) is defined as the total spending on goods and services
in an economy, in a given period of time at a given price level. It is made up of
consumption (C), investment (I), government spending (G) and net export
expenditure (X – M).
Consumption (C) is the total spending by consumers on domestic goods and
services. Investment (I) is the addition of capital stock to the economy by firms
and government. Government spending (G) is spending on goods and services
Net exports (X – M) are the value of export revenues minus import expenditure
over a period of time.
d Aggregate supply (AS) is the total amount of goods and services that all
industries in the economy will produce at every given price level.
Any changes in the cost of inputs and resources such as wage rates, the cost of
raw materials or the price of imports will alter the amount firms are willing and
able to supply, alterations in the supply of individual firms affects AS.
Changes in productivity will alter the AS of goods and services as more can now
be produced using the same amount of resources. Anything that can improve
productivity such as improvements in human and physical capital, technological
advances and process innovation will therefore influence AS.
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2.5.3 Inflation
a Inflation is a sustained rise in the average price level (usually retail prices) and
a fall in the value of money. Deflation is a sustained fall in the average price
level (usually retail prices) and a rise in the value of money. Disinflation is a fall
in the rate of inflation – a decrease in the rate at which the average price level
is rising. A common area of misunderstanding arises here: disinflation does not
mean a fall in the average price level, it is a decline in the rate at which
average prices are rising.
b Students should be aware of the difference between the RPI and CPI; for
example, RPI includes housing costs whereas CPI does not. They will also need
to be able to interpret price indices including the RPI and CPI and hence the
rate of inflation.
c Students need to know the distinction between real and nominal values,
constant and current prices, and be aware of their significance when using data
or discussing economic events.
The nominal value of something is its money value at different points in time.
Real values adjust for differences in the average price level over time. In other
words, real values are nominal values but with inflation taken into account.
Constant and current prices apply the methods of real and nominal values to
data. As such constant prices take into account inflation and current prices are
not adjusted for inflation.
d Demand-pull inflation occurs as a result of increasing AD in an economy,
resulting in prices rising as consumers try to buy increasingly scarce goods.
Cost-push inflation occurs as a result of an increase in the costs of production
in an economy, resulting in rising prices as firms try to maintain profitability.
The rising price of oil and other imported commodities can cause cost-push
inflation.
e Inflation affects firms in many ways, causing uncertainty among the business
community with the resulting tendency not to invest. Interest rates tend to be
forced up so that the ‘real’ rate remains positive, increasing the cost of
borrowing for firms and making return on investments less certain.
Inflation within the UK pushes up the prices of domestically produced goods,
this means that UK goods and services may be less competitive than those of
other nations. This may lead to a fall in demand (depending on PED) and a
resultant fall in sales, output and profit.
f Inflation tends to harm those on fixed incomes or those who lack bargaining
power and so their pay rises do not keep up with the inflation rate, their real
income falls. Inflation harms those who save and benefits those who borrow.
Inflation redistributes wealth to those with assets. For example, property
owners see a rise in value during periods of inflation. In general, inflation
impacts negatively on the lower income and wealth groups more than it does
on the higher income and wealth groups.
2.5.4 Employment and unemployment
a Employment, unemployment and underemployment need to be explained,
students need to appreciate the differences between the terms and how they
are defined.
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b Students should be aware of the differences between the measures of
unemployment and how they are arrived at. The claimant count is a measure of
unemployment and counts only those people who are eligible to claim the Job
Seeker’s Allowance (JSA). One significant problem with the claimant count is
that it omits many people who are interested in finding work but do not meet
all of the criteria for claiming.
The ILO measure is designed to include all persons above a specified age who
are, without work, currently available for work and seeking work.
c Unemployment has various causes and students should be able to distinguish
between them and why they happen. These have implications for which policy
to use in correcting it (the policies come later).
Structural unemployment is where unemployment occurs because the
structure of the economy has changed; for example, the decline of whole
industries such as coal mining.
Occupational immobility is when an unemployed person does not have the
right skills or abilities to take up the employment on offer, this is often
linked with structural change.
Geographical immobility is similar in that an unemployed person is
prevented from taking a job because they cannot move to where the job is,
perhaps because of family or the cost of moving.
Technological unemployment is caused by technological change. As
technology improves it is often the case that fewer employees are needed,
they can be replaced with machinery or computers.
Demand-deficient unemployment also known as cyclical unemployment is
where unemployment occurs because AD in the economy has fallen (in a
recession), leading to a fall in the demand for labour.
d Students may well be asked to assess the impact of unemployment and need to
appreciate that much will depend on the firm or individual in question.
Unemployment can be a problem for the firm, rising unemployment means less
disposable income and falling demand for many firms. Those that sell luxuries
may be particularly badly affected whilst those who sell inferior goods may see
improving sales. There is an obvious link here with the earlier work on YED.
On the other hand, unemployment can mean that a firm has a wider pool of
labour from which to recruit, making it easier to find well qualified and skilled
staff. There may also be less upward pressure on wages, reducing potential
costs.
For the individual unemployment is not positive; rising unemployment will
usually make it harder to find a job. There is also a direct financial cost
measured as the difference between their previous income and any
unemployment benefit received. The longer people remain unemployed, the
more de-skilled they become. There are also personal costs for the unemployed
in terms of stress-related illness and family problems caused by the strain of
being unemployed.
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2.6 Introduction to macroeconomic policy
A government’s economic policy choices will be determined by their own short- and
long-term political interests. The aim of this section is to explore the reasoning
behind policy decisions and the likely conflicts between policy objectives.
There are commonly four main economic aims for government: steady and
sustainable rate of increase of national output (economic growth); low level of
unemployment; low and stable rate of inflation; and favourable balance of
payments position.
The emphasis a government places on each of these areas will largely determine
their fiscal and monetary policy.
2.6.1 Possible macroeconomic objectives
a Economic growth is all about achieving a sustainable rate of growth in real GDP.
If the economy grows too fast, inflation may accelerate because demand is
growing and supply cannot keep up. Economic growth leads to higher living
standards.
b Low levels of unemployment are needed to maximise output and help achieve
economic growth. It is also seen as a desirable social and political goal.
c Low and relatively stable rates of inflation contribute to economic and political
stability. Too high a rate is damaging to the economy because it is
unpredictable and makes planning and investment more difficult, once again
clashing with the objective of economic growth.
d The current account is the sum of the balance of trade (goods and services
exports less imports), net income from abroad and net current transfers. A
positive balance of payments means that the money we earn from selling
exports is greater than the money we pay for imports. If imports exceed
exports a trade deficit develops; this will need to be financed by borrowing and
may not be sustainable.
2.6.2 Policy instruments
Students need to know what these policies entail, how they work and how they
impact on the economy, firms and economic agents.
a Fiscal policy is where governments alter their own expenditure and taxation to
affect the economy. To expand the economy, the government could reduce
direct and indirect taxes and increase its expenditure. AD may increase and this
could help to solve demand-deficient unemployment but could cause demand-
pull inflation. To contract the economy, the government could increase direct
taxes and decrease its expenditure. AD may decrease and this would help to
solve demand-pull inflation but could cause disequilibrium demand-deficient
unemployment.
b Monetary policy is where governments or central banks alter the interest rate to
affect the economy. To expand the economy, the government could reduce
interest rates making borrowing cheaper for firms and individuals who are then
more likely to consume and invest thus increasing AD. This could help to solve
demand-deficient unemployment but could cause demand-pull inflation. A
contractionary monetary policy works to reduce inflation by increasing interest
rates to have the opposite effect and reduce AD.
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c Supply-side policies are designed to increase AS rather than AD. They allow the
economy to grow without building up inflationary pressures. Students should be
aware that there are numerous measures of different types but they are all
intended to increase productivity. They include anything that is designed to
help the economy produce more and use existing resources more efficiently,
such as education and training, incentives to encourage investment, developing
a flexible labour force, reducing structural unemployment and encouraging
R&D. Some taxes such as the working family tax credit act as an incentive to
seek employment rather than stay on benefits. The government may also
reduce benefits and reduce taxes on low incomes in an attempt to get people
back into employment (the poverty trap).
d The exchange rate affects the economy through its effect on the prices of
exports and imports. The UK has a floating exchange rate and as such can be
deliberately manipulated by monetary policy.
With a floating exchange rate the price (exchange rate) of the currency is
determined by the market forces of demand and supply. It behaves just like
any good or service. The demand for, and supply of a currency are created by
trade and investment flows. Higher interest rates tend to make the pound
appreciate because investment in sterling assets becomes more attractive
compared to other currencies, which increases the demand for pounds. Lower
interest rates have the opposite effect.
The Bank of England does not specifically target the exchange rate but the
Monetary Policy Committee (MPC) will take exchange rates into account.
2.6.3 Potential policy conflicts and trade-offs
All governments face potential policy conflicts and trade-offs. Solving one problem
by using a particular policy can cause another problem to appear in its place.
a Governments often find it difficult to achieve both a low inflation rate and a low
unemployment level. This is because attempts to control inflation use a
contractionary fiscal or monetary policy which reduces AD and hence output,
meaning less labour is needed and so unemployment rises. To reduce
unemployment the government may use an expansionary fiscal or monetary
policy which increases AD and reduces unemployment but may cause
unsustainable growth and inflation.
b In a similar way to the trade-off between inflation and unemployment,
government policies directed towards maximising economic growth may conflict
with policies intended to ensure that growth is sustainable and that the pursuit
of growth does not harm individuals not directly involved in production and
consumption (third parties) or to the environment.
Expanding economies require increasing amounts of energy, generating this
power can lead to direct negative externalities in the form of pollution and also
the long term external costs of the depletion of non-renewable resources.
c Issues governments face in managing the macro-economy are complex and
often characterised by contradiction, as macroeconomic objectives are
sometimes incompatible.
Certain policies and objectives can be unpopular such as tax rises and spending
cuts and may face strong opposition. Policies, particularly supply-side ones can
take a long time to show results. Changes in taxation have an almost
immediate impact whereas changes to spending take time to work through.
There are also events that are beyond the effective control of government;
external shocks such as the banking crisis or the recent Eurozone problems can
affect policy outcomes. So too can fluctuating oil and commodity prices, high oil
and food prices caused inflation in the UK despite low growth.
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d The extent to which macroeconomic perspectives and theories influence policy
decisions is the subject of some debate. Students should be aware that there
are differences of opinion over how to best manage the economy; this is often
manifested in debate between political parties.
Students should understand the arguments between those who favour a more
active interventionist role in the economy because the free market is inefficient
and those who believe that the free market should be left alone to work in a
more efficient manner. Similarly there are those that want to see greater
taxation and spending and those who believe taxes should be cut and the public
sector reduced. Again, there are those who want to see greater involvement in
Europe and those that want to see the UK break free from the EU.
From a teaching perspective it is useful to examine the ways in which different
macroeconomic perspectives have influenced political debate surrounding
austerity measures in the UK.
e Policy instruments can often be extremely logical, based on sound economic
theory and very well intentioned. However, it is often the case that policies
have unintended consequences. The case of the so-called ‘fat tax’, for example,
promoted with the intention of reducing obesity, can have the unintended
consequence of increasing inequality as those in the lowest income groups are
more likely to consume food high in fat, salt and sugar. Such groups are also
likely to spend a higher proportion of their income on such food and therefore
see an increase in their tax burden. In a similar way, raising minimum wage
levels may have a negative impact on employment, tax receipts and inflation.
Links between the various fiscal and monetary policies need to be considered in
the short and long run, and students should be encouraged to speculate as to
the possible unintended consequences of policy instruments.
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Theme 3: The global economy
This section provides ideas and suggestions for teaching approaches for Theme 3
and is not intended to be prescriptive. The specification should be referred to as the
authoritative source of information.
3.1 Globalisation
Globalisation is the ongoing integration of countries on a political, economic and
social level. Although it is nothing new, the last three decades have seen a huge
increase in its extent, leading to increasing trade and rising prosperity across the
globe, particularly in emerging markets. China and India have become formidable
economic powers and other countries are growing rapidly. Allied with rapid
technological progress, the global economy has seen major structural change
which is continuing to affect individuals, businesses and economies.
This section focuses on the connection between trade and growth and the various
factors that have contributed to it, as well as the consequences arising from it.
3.1.1 Growing economies
a The rise and growth of the BRIC countries is well documented and students
should be aware of this. In addition, other areas are developing rapidly and
having an increasing impact on the global economy. Examples might include
Nigeria, which is now Africa’s largest economy, Mexico, which is attracting
increasing levels of foreign direct investment (FDI), and Mongolia, which is
beginning to exploit its minerals and resources. By contrast, China is beginning
to slow and is perhaps losing its previous advantages as its economy develops.
Students will not need to study these areas in depth or memorise statistics;
rather, a broad overview is required.
b Economic growth should lead to rising incomes and increased employment
opportunities for individuals, as well as more choice and better living standards.
Businesses should see an increase in sales and profitability with further
opportunities for growth and investment. In reality, consumer incomes will not
all increase and income inequality may rise. Not all businesses will flourish and
some may suffer (for example suppliers of inferior goods and services).
Structural change goes with economic growth, meaning some areas of an
economy expand at the expense of others.
c Rising incomes will affect individuals in different ways. In developing economies
it can mean that many escape poverty; for example, China’s average growth
rate of 10% is thought to have lifted more than 500 million people out of
poverty. In reality, consumer incomes will not all increase and income
inequality may rise.
d The differences between real and nominal values, and why and when they are
used, should be explored.
e Students will be expected to be able to calculate and interpret index numbers
and understand why they are used.
3.1.2 Trade and growth
a Students should be aware that trade liberalisation has been an increasing
phenomenon in recent years. This has been brought about by several factors,
including political and social change, expansion of trading blocs and the role of
the World Trade Organisation (WTO).
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b By specialising, countries can gain a competitive advantage in terms of lower
average costs and reputation. Examples might include: Brazil and commodities
such as soya, iron ore and sugar; India and IT services; Russia and energy
supply; and the UK and financial services. Students need to be aware of both
the advantages and disadvantages of specialisation.
c Trade liberalisation can lead to reduced costs of trade, greater choice, lower
prices, a rise in disposable income for consumers and an expansion of potential
markets for businesses. All of these should lead to economic growth.
d Students should understand the nature and trends of FDI, particularly that it is
not just something that happens to developing nations. The impacts of FDI may
include increases in employment, income and tax revenue, and subsequent
economic growth. The multiplier concept is useful here.
Students are not required to study the theory of comparative advantage.
However, they should have an understanding that, if countries specialise in
what they do best or least badly and then trade, economic growth is likely.
3.1.3 Trading blocs
a Students need to understand and apply the terms trade creation and trade
diversion to real-life examples, and understand the positive and negative
impacts of each of them.
b The expansion of trade blocs has gone hand-in-hand with globalisation and the
growth of trade. This process is ongoing and some trade blocs, such as the EU,
are committed to further expansion. Although detailed knowledge of the
workings of these blocs is not required, students should be aware of their
impact on trade, businesses and individuals, and that new trade blocs, such as
the RCEP, are in the process of being created.
c Trading blocs affect businesses in different ways, both positively and
negatively. Students should be able to assess the impact on a range of different
businesses of being in a trade bloc, joining a trade bloc or of a trade bloc
expanding.
d Trade blocs create interdependence and reduce real independence and
unilateralism. Economies in trade blocs need to consider the impact of their
decisions on other economies in the bloc if they are to accept/continue
membership.
3.1.4 Trade policy and trade negotiations
a Students should explore what protectionism is and why countries use it,
including protecting existing/infant industries, raising revenue, political
pressure and retaliation. Diagrams should include a shift of the supply curve
following the imposition of a tariff and a partly vertical supply curve following
the imposition of a quota. Other trade barriers might include bureaucracy, rules
and regulations, and the subsidising of domestic industry. Students should also
be aware that protectionism can and does exist despite an apparent
commitment to free trade.
b Students should be able to give examples of trade negotiations and be aware of
the role that these bodies play in the process of trade liberalisation and
resolving disputes. They should also appreciate the limiting factors and to what
extent these bodies and groups are effective.
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3.1.5 Exchange rate changes
a The emphasis here is on the possible effects, as they can vary widely
depending on other factors, not least of which is the size and duration of any
changes in the exchange rate in the first place. Students will be expected to
apply concepts from other sections of the course and are likely to have to use
evaluative skills. For example, the impact of a change can depend on the PED
of exports and imports, whether the economy is in a boom or recession, what is
happening in other economies, and the impact on inflation, which in turn affects
these variables and the short- versus long-run situations.
b Students need to be aware of the Eurozone and its impact on the EU, as well as
on those countries such as the UK that do not share the Euro.
3.2 Economic factors in business expansion
This section explores businesses that want to trade overseas and the reasons for
wanting to do so. Some may be forced to seek out new markets because of
problems in existing domestic markets. Others will be tempted by the possibilities
for growth and profit that new trading areas offer. Often, it will be a mix of
reasons. Students will need to understand the reasons why this happens and why
the reasons will vary for different businesses.
This section also covers the issues of which country to choose, either for a
potential market in which to sell a product or service or as a location for
production. Students will not be expected to have in-depth knowledge of
potential markets and locations but rather an appreciation of the various
influencing factors involved and how they will differ in importance for different
businesses.
3.2.1 Conditions that prompt trade
a Poor trading conditions in domestic markets can ‘push’ a business into seeking
new markets. For many western businesses the poor economic climate since
2008 has made it difficult to grow and even survive; many western markets are
very crowded and it can be very difficult and costly to remain competitive.
Domestic expansion can be slow and problematic.
b There are a number of factors that can ‘pull’ a business into a new market.
Many of the developing markets are growing in terms of size and wealth; they
are relatively unsaturated and hold out the potential for increased sales,
stability and profit.
c Students should be aware of the difference between the terms offshoring and
outsourcing. Offshoring is a type of outsourcing and means having the
outsourced business functions in another country. Frequently, work is offshored
in order to reduce labour costs, such as to China. Other reasons for offshoring
are strategic: to enter new markets, to find labour or resources currently
unavailable domestically or to overcome domestic regulations that prevent
specific activities. (Although not a requirement, students may come across the
terms nearshoring and onshoring, which refer to outsourcing close to a country
and returning outsourced production back to the country of origin.)
d Trading overseas can be seen as an extension strategy of the product life cycle.
New markets add to total sales and boost profitability, prolonging the maturity
stage. A declining or obsolete product at home may be new to the overseas
market and enjoy a fresh lease of life.
e Spare capacity can be used to increase production; this extra production may
not be able to be sold domestically due to lack of demand but can find a market
overseas. This improves capacity utilisation and helps to lower average costs,
improving competitiveness and profitability.
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3.2.2 Assessing the potential of different economies
a Students should understand that there will be a range of factors that will
influence which country (or countries) may be best suited as a potential
market. These factors will vary depending on the product or service involved.
One factor may be a paramount requirement or it may be a combination of all
of them. Even if the ideal market is found, success is not guaranteed. Students
should explore examples, such as Tesco in the US and eBay in China.
b Students should understand that there will be a range of factors that will
influence which country (or countries) may be best suited as a production
location. These factors will vary depending on the product or service involved.
One factor may be a paramount requirement or it may be a combination of all
of them. Even if low labour costs are important, there is still a range of
countries that can provide this. The traditional location of China is no longer as
attractive as wage levels rise. Many automobile manufacturers are scaling down
production in China and investing in Mexico, which has slightly higher wage
costs than China but transport costs to the lucrative North American markets
are much lower and it is also in NAFTA.
3.3 Impact of globalisation on global companies
This topic shows how firms have adapted marketing strategies in response to
global demand. As businesses expand and international sales take place, a firm
has to consider the needs of both domestic and international customers. For most
businesses there is no such thing as a single global market: global sales are
made up from many national markets. Despite modern technology and
communications and the ongoing process of globalisation, there can still be
considerable differences between these markets. Global businesses need to be
able to recognise these differences and adapt their marketing strategies
accordingly if they are to survive and prosper. Some businesses may need to
do little in the way of adaptation, while others will go to great lengths to adapt
each aspect of their marketing strategy to suit the requirements of each
individual market.
Students will need to recognise the different approaches that businesses will
use and their advantages and disadvantages. There are many excellent case
studies and examples that will help do this. This section also looks at the rise of
global niche markets and then at some of the cultural and social factors that
businesses must take into account if they are to be successful and avoid costly
marketing errors.
3.3.1 Responding to global demand
a Some businesses succeed by having a common global marketing strategy that
applies to all of their operations worldwide. This global approach works well
when their markets have similar expectations wherever they are. Where
markets differ, and they frequently do, businesses need to plan differing
marketing strategies that will fit local market preferences. Localisation means
that the business may adapt or change its products and marketing plans to suit
individual countries or market segments. Which approach a business takes will
depend greatly on the product or service involved and how varied consumer
needs and tastes are in different markets.
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b Domestic/ethnocentric, mixed/geocentric and international/polycentric are
terms used to describe the different marketing approaches that reflect the
degree of globalisation or localisation. Students need to understand the
advantages and disadvantages of each approach and to recognise examples of
each, such as Apple and Ferrari, which sell mostly standardised products
everywhere, McDonald’s, which maintains a global brand but adapts its menus
in each country, and Unilever, which adapts many of its products to each
individual market. For example, Unilever’s Rexona deodorant brand had 30
different package designs and 48 different formulations. In reality, most
businesses use elements of global and local strategies.
c Students need to be familiar with price and non-price competition in global
markets and understand that this will vary according to the global marketing
approach adopted. The level of economic development may not permit standard
western pricing tactics. Promotion may need to be adapted to be culturally
relevant or avoid offence. Products may need to be changed to meet differing
needs or cultural sensibilities. In many countries conventional distribution may
not be possible and other means are developed, such as the Unilever Shakti
programme.
d ‘Global brands’ develops the idea of a brand and looks at what it means to be
recognised as a brand on a worldwide basis. The strength of a global brand is
not always linked to its current financial performance. For example, despite a
string of recalls and bad publicity Toyota continues to be the top auto brand.
Global brands are important if a business is to sustain a global presence and
add value to its products. The current top global brand is Apple and the top
100 brands together are worth an estimated $2.6 trillion.
3.3.2 Demand-side factors in global markets
a There are numerous difficulties facing businesses when entering foreign
markets and marketing their products. Students may already be aware of some
of the problems that may arise from cultural and social factors such as religious
and/or dietary differences and preferences, and the need for adaptations to the
marketing strategy. Fast food chains such as McDonald’s can provide good
examples here. Western standards of dress, behaviour and morality can all
cause problems. Students should be aware of the importance of adjusting the
marketing approach to cater for cultural and social factors, and how potential
difficulties can be minimised or avoided.
b Information and communication factors include language, unintended meanings
and inappropriate or inaccurate translations. There are many examples of
marketing mistakes on the internet that can be both amusing and informative
for students.
c Away from the mass markets, there are many smaller but potentially lucrative
niche markets based on the widely differing needs of many small groups of
consumers. These niche markets may be based on a wide range of factors,
such as cultural and social, artistic and aesthetic, or leisure and sporting.
Some of these groupings will be found globally; others will be unique to one
area or culture.
Global niche markets can transform business prospects because they create
opportunities where national niche markets are very small. They are smaller,
more specialised parts of a global market where customers in more than one
country have particular needs that are not fully met by the global mass market.
The product or service is likely to be differentiated from that of the mass market.
Global niche markets will still use the marketing strategies but a different
emphasis may be placed on these. Price is likely to be higher, the product more
specialised or perhaps of higher quality, promotion may be more specialist and
more specifically targeted, and place may be of greater importance.
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3.4 Impact of globalisation on local and national economies
Multinational corporations (MNCs) are businesses that operate or have assets in
more than one country. They can be very large organisations with turnover
exceeding the GDP of many countries. Inevitably, this gives them great power
and influence. Many MNCs have been accused of abusing their position and have
attracted great criticism of their actions. On the other hand, MNCs are often
welcomed in overseas countries as they can bring many benefits to a range of
stakeholders and economic agents, including the people, the government, other
businesses and the economy as a whole. It is very likely that some of the biggest
MNCs of the future will be Chinese or Indian and that they will have an increasing
impact on the global economy.
Students will need to be able to assess the relative benefits and drawbacks that
MNCs bring to an economy and to understand the controversies that can
surround them. It is important that they understand both sides of the argument
and present a balanced answer with examples.
Students will also be required to consider whether the activities of MNCs should
be controlled and to what extent such attempts will be successful. It is also
important to realise that MNCs operate in all types of economy and that most FDI
still goes to developed economies.
Examples and case studies should be used to illustrate the various topics in
this section.
3.4.1 The impact of multinational corporations (MNCs)
This section considers the impact MNCs can have on both the local and national
economy. This means that students will need to consider both positive and negative
aspects and to make evaluative judgements.
a The initial investment for location in a host country creates employment.
Buildings and equipment may be needed, creating work for local people. Once
operations commence, a workforce will be needed. Local businesses may be
involved in supplying or servicing the MNC and see an increase in business,
taking on more workers. All of the local people who have found new employment
will spend some of their income with local businesses. This increases local
demand and, in turn, creates more jobs. There is a positive local multiplier effect.
The local community and environment may benefit from CSR programmes.
However, some MNCs may exploit the local labour force with poor wages and
conditions. Local labour may only be used for menial tasks, with MNCs bringing in
their own personnel. Local businesses may be exploited or driven out by
competition from the MNC, and there can be considerable damage to the local
community and environment from pollution and despoliation – this is particularly
common for the oil, mining and extractive industries.
b MNCs also affect the national economy. Employment and growth at a local level
contributes to overall economic growth and increased tax revenues that aid
government spending and development. Production that is exported improves
the balance of payments. Other MNCs may be attracted to follow suit and the
flow of FDI increases, thus a growing business culture is created. MNCs bring
skills and technology that can be passed on to the host country for future benefit.
However, MNCs can be adept at avoiding tax liabilities by such practices as
transfer pricing. Profits can be repatriated and have little impact on the host
economy. R&D facilities may be kept in the home country, reducing opportunities
to develop skills and for technology transfer. Many MNCs enter another country
simply to access a new market, so only sales and marketing facilities are
established. MNCs are likely to take whatever incentives are on offer, stay for a
while and then move to the newest low-cost location in another country, leaving
behind unemployed workers and a weakened economy. They encourage a so-
called ‘race to the bottom’.
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3.4.2 Ethical issues
a There is a great deal of potential for stakeholder conflict with MNCs.
Shareholders may question the cost of ethical behaviour in the short run even
though it may give the business a competitive advantage – the consumer’s
need for cheaper energy can cause damage to the environment and local
communities.
b Although many MNCs do pay above-average wages and have strong CSR
policies in place, others may exploit workers in terms of pay, child labour,
sweatshops and dangerous conditions. The collapse of the factory in Dhaka,
Bangladesh, in 2013 killed over 100 people.
c MNCs can cause great damage to the environment by their processes and the
transportation of their products. This damage can be short or long term and the
resulting situation may be unsustainable. Examples include the impact on areas
such as the Amazon rainforest.
d Many MNCs have long supply chains that are difficult to control in terms of
ethical working practices. Cheap clothing chains have been involved in
controversy on several occasions over the exploitation of labour.
e MNCs need to take into account how they promote and package their products
to avoid controversy. This covers not just the need to be sensitive (as in section
3.3.3) but also more controversial practices such as tobacco companies
targeting youngsters in developing economies.
3.4.3 Controlling MNCs
a Students need to be aware of the various ways in which the activities of MNCs
might be regulated, influenced or controlled. They should explore how effective
these factors might be and what will make them more or less effective
depending on the situation. For example, the US or China is likely to have much
greater influence over MNCs than Mozambique or Ethiopia. Developing nations
may be reluctant to confront powerful MNCs that can bring much needed FDI.
Legal systems are more likely to be robust in developed nations and public
opinion is likely to be more influential over businesses that sell directly to the
public, rather than over a mining business.
b There have been many attempts to encourage self-regulation, either from
within the industry itself or by outside bodies. Examples include OECD
Guidelines on Multinational Enterprises, UNCTAD’s Set of Multilaterally Agreed
Equitable Principles and Rules for the Control of Restrictive Business Practices,
and the UN’s Global Compact. Students are not required to know the details of
these agreements but they should be able to assess the merits or limitations of
self-regulation.
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3.5 Global labour markets
The global labour market encompasses all types of labour that are available to
work on a global basis. Like the domestic labour market, it is made up of all
those who supply labour and those who demand it.
In recent decades it has both increased and changed dramatically. As developing
economies have industrialised and started to compete in world markets, the
global labour market has grown. As more than one billion people entered the
labour force, a massive movement from the land to the city has accelerated the
growth of productivity and per capita GDP in China and other traditionally rural
nations, bringing hundreds of millions of people out of poverty. Developed
economies have invested in labour-saving technologies and used global sources
of low-cost labour in order to increase efficiency and competitiveness.
This topic explores how and why the global labour force has grown, how its
composition has changed and the factors that have influenced this change. It also
examines the workings of the labour market and how market imperfections, such
as unions, professional bodies and minimum wage legislation, have an effect on
labour, wage rates and economies.
3.5.1 Employment patterns
a It is estimated that, by 2030, the global labour force will reach 3.5 billion.
Much of this increase will be contributed to by developing economies
industrialising, the spread of globalisation and the reduction in trade barriers.
Although this has led to improved standards of living for many people, it is also
true that for others poverty remains a reality and young people have a
disproportionately high level of unemployment (the ILO estimate 900 million
and 75 million, respectively).
b In 1980, the global labour force was just 1.7 billion. By 2010 it was 2.9 billion
workers, with the emerging world responsible for most of the increase: it added
900 million new non-farm workers, of which 400 million live in China and India
alone. The addition of China’s and India’s workers lifted many out of poverty.
This structural change has powered rapid growth. China’s non-farm workers are
seven times more productive than farm workers. At the same time, structural
change has been taking place in developed economies with less need for low
skilled labour and the development of the knowledge economy. Students should
understand that this is an ongoing process and be aware of current trends.
c The global labour market is interdependent in that it is affected by events in
individual labour markets. For example, it is claimed that the expansion of
low-cost labour in developing markets has depressed wage rates in the more
developed economies. India has developed a specialisation of workers in IT and
software development; this has reduced the demand for similar personnel in
western labour markets. Students need to understand the nature of this
interdependence and its impact both historically and how it is likely to develop
in the future.
3.5.2 Wage rates
a In a free labour market, wage rates are determined by the interaction of the
supply of and demand for labour. Students need to know what the factors are
and how they might influence wage rates. Supply is mainly determined by the
number of workers available and with the right skills/education/requirements.
Demand is a derived demand and depends on the demand for the particular
product/service or industry. As such this is likely to be influenced by structural
change, changes in the income/economic cycle, tastes and fashions, and the
amount of capital available.
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b The importance of skills, training and education has long been recognised both
as a means of growth for the economy and for the betterment of the individual.
With mass labour becoming ever more abundant, it is even more vital for
labour to have skills that are in demand and also transferable.
c All of these will tend to reduce (or restrict increases in) wage rates in labour
markets. The examples in 3.5.1c also apply here. A recession reduces the
demand for labour and subsequent redundancies not only reflect a fall in
demand but also increase the surplus supply of labour.
d Trade unions and professional bodies have a distorting effect on wage rates:
because they interfere with the free workings of the market, they can be seen
as market imperfections. Students need to understand how the market
responds to this in terms of the impact on the supply of labour and wage rates,
and to understand the implications for business and the economy. (Although a
diagram is not necessary here, it may well aid understanding in the classroom.)
3.5.3 Minimum wage legislation
a Minimum wages also have a distorting impact on labour markets and wage
rates. Students need to understand how the market responds to this in terms of
the impact on the supply of labour and on wage rates, and to understand the
implications for business and the economy. (Although a diagram is not
necessary here, it may well aid understanding in the classroom.) Students
should be aware of the arguments for and against minimum wages and to what
extent they have had an impact. Developing economies such as China have just
started to introduce minimum wages in some regions and, again, students need
to understand why.
b Structural change brings about skills shortages as new industries and
businesses develop faster than the relevant supply of labour can. This has an
impact on wage rates and the ability of countries/businesses to compete
effectively.
c When shortages appear in labour markets, one solution is to attract more
labour to solve the problem. Relying on the internal or national supply of labour
can be a problem due to the immobility of labour. However, accessing labour
from international sources – migration – can be a solution and the UK has
benefited from this in the past. Students should be aware of the advantages
and disadvantages of migration and to what extent it is a solution given
existing economic, political and social barriers.
d Inequality is dealt with in more detail in 3.6 but students should be aware that
labour market incentives such as the minimum wage can help to reduce
inequality.
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3.6 Inequality and re-distribution
This section examines inequality and poverty, and covers what these terms
mean, how they are measured, and how and why governments attempt to deal
with them. Inequality and poverty are features of every economy and the global
economy as a whole, and although they are linked, they are not the same thing.
In many economies poverty is being reduced but at the same time inequality
is increasing.
Inequality itself is not necessarily a negative phenomenon: too much can mean
hardship for many and restrict growth, too little may mean excessive government
intervention and limit innovation and enterprise. Poverty is closely linked to
economic growth in that it can restrict economic development. However,
economic growth is a means of reducing poverty. For example, there has been a
significant reduction in poverty in recent decades as countries such as China and
India have developed in economic terms, but for many, poverty and absolute
poverty remain.
Students need to be familiar with these concepts and how they affect individuals,
businesses and the economy as a whole. They should understand how inequality
and poverty are measured and be able to interpret the results and trends over
time. They should be aware of how these problems have been tackled and be
able to evaluate their effectiveness.
3.6.1 Poverty and inequality
a Students should be able to distinguish between relative and absolute poverty.
Absolute poverty means that a person does not have adequate access to basic
human needs such as food, safe water, shelter, sanitation and healthcare. It is
likely to cause suffering and premature death.
Relative poverty means not having the means or resources to adequately
participate in the economic and social life of an economy. This level of poverty
will vary depending on the level of development of the economy.
b Students should also understand how poverty is measured. For example,
the main measure for relative poverty used in the OECD and the EU is based
on a level of income usually set at 60% of the median household income.
They should also have an understanding of how levels of poverty have changed
over time.
c To measure inequality, students need to understand the Gini coefficient and the
Lorenz curve – how they are arrived at, what they mean and how to interpret
them.
3.6.2 Reducing poverty
a Economic development is about how an economy expands not just in terms of
income and investment but also in socioeconomic terms. It is a way of
measuring progress in the quality of life in developing and developed nations.
Economic growth is more specific and refers to an increase in the real output of
goods and services in the country expressed in terms of GDP. Students need to
know how both can lead to a reduction in poverty.
b International aid is often seen as a way of helping development and reducing
poverty. Students should appreciate that this is not always a straightforward
topic. While it can be seen as a means of helping alleviate poverty in the short
term, it may not be the best long-term solution. The term NGO covers many
different bodies but here students need to know about their role in aiding
development; detailed knowledge is not required.
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c Poverty reduction policies are designed to reduce poverty and narrow the
income gap. They cover a vast range in terms of type, size and scope.
(The UN alone has over 4,000 different projects.) Students should be aware of
one or two examples and understand how they might lead to poverty reduction.
3.6.3 The impact of inequality on economic agents
a The impact of inequality can be a controversial area depending on political
viewpoint. Nevertheless there does seem to be a growing consensus that
excessive income inequality is harmful. The work of Professor Richard Wilkinson
could be a useful example here.
Many social problems that affect the individual, such as crime, infant mortality,
educational attainment and life span, are now thought to be related to the
degree of inequality rather than that of poverty alone. Inequality makes it
harder for the individual to progress and can cause social tensions and unrest.
The US could be used as an example.
b If inequality is responsible for the problems outlined above, then it is likely that
low-income workers will be less productive than those on higher incomes in a
more egalitarian society. Low-income workers who lack educational attainment
or feel less involved are likely to be both less able and productive as a
workforce.
c Inequality may have a general slowing effect on economic growth; the rich
consume a smaller proportion of their income than the poor. Those on higher
incomes save money which people on lower incomes would spend. This leads to
a fall in aggregate demand which, in turn, leads to lower growth and
unemployment. It may also cause instability; some economists have argued
that inequality in advanced countries contributed to the Global Financial Crisis.
3.6.4 Re-distribution of income and wealth
a Income is a specific flow of money, usually in the form of wages or a salary,
and measured over a specific time period. Wealth is a stock and is measured by
the total monetary worth of assets at a particular time.
b Students should appreciate the importance of incentives as a means of
influencing certain behaviours. This can be in a positive manner and also in a
negative way, such as the poverty trap. They should understand the nature of
the poverty trap, why it is difficult to eradicate, how the government has tried
to do so with the Working Families Tax Credit scheme, and the extent to which
it has been successful.
c A detailed knowledge of the tax system is not required but students should
know the general purpose of taxation, its role in the redistribution of income
and wealth, and as a source of government revenue for the provision of
services. Students should understand that the level of taxation is an
incentive/disincentive for individuals and businesses. It is also an area of
political debate, with some economies favouring high levels of taxation,
redistribution and services, and others that try to minimise government
intervention.
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Theme 4: Making markets work
This section provides ideas and suggestions for teaching approaches for Theme 4
and is not intended to be prescriptive. The specification should be referred to as the
authoritative source of information.
4.1 Competition and market power
This section covers market structures, and its focus is on market power and the
nature of competition in a range of situations. The content builds on earlier work
on competition, marketing, pricing strategies, costs of production, innovation and
productivity. Revision of relevant topics will be important in helping students to
progress towards a more sophisticated analysis of the issues involved. Productive
and allocative efficiency are introduced and these topics encourage a synoptic
approach. Overall, the objective should be to draw together students’
understanding and prior knowledge, developing awareness of the links and
relationships between concepts, events and policies. Taken together with the
additional content, this section gives the student powerful tools of application,
analysis and evaluation.
A wide range of case studies and examples will be required to illustrate the
terminology employed. Markets and businesses vary hugely in terms of the
strength the nature of the competition that prevails. The diagrams that are
associated with the theory of the firm are not required but students should
develop a thorough understanding of the range of real-world scenarios that can
occur and the ways in which they can be categorised.
4.1.1 Spectrum of competition
a The spectrum of competition can be used as a way of defining the differences
between the main market structures, helping students to understand the
variations seen within each category. The specific features of perfect
competition, oligopoly and monopoly can be taught using a wide range of
examples. Within the umbrella term of imperfect competition, it may be useful
to identify monopolistic competition, stressing product differentiation, because
there will be so many examples within students’ own experiences, for example
hairdressers, florists, restaurants or estate agents.
b Perfect competition should be taught as a yardstick, a way of evaluating the
relative competitiveness of different markets. Commodity markets provide
reasonably realistic examples of perfect competition. Most commodities come in
different types or grades but within each category there is usually a
homogeneous product. Wheat, sugar and tea are useful and can be contrasted
with those commodities where global businesses and some governments have
become very powerful, for example diamonds and oil.
c Pricing strategies were covered in section 2.2 and these should be revised so
that students can understand and analyse the connections between pricing
strategies and market structures. For example, highly competitive markets will
usually lead to many businesses pricing competitively, even though
differentiation may sometimes create opportunities to charge higher prices.
A business that has a degree of monopoly power may choose to use predatory
pricing as a way to destabilise competing producers. Case study material will be
needed to cover a wide range of scenarios.
d Non-price competition occurs in all situations of imperfect competition. Products
will not be homogeneous although some may be very similar. Businesses may
focus on quality, design, reliability or any other product feature or marketing
plan. Sometimes the objective will be to give perceived value for money,
charging a relatively high price but incorporating desirable product features that
give the product a competitive edge.
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e The limitations of the model of perfect competition should be discussed.
Students should understand that the model shows how market systems can
deliver allocative efficiency but that all kinds of market imperfections have
potential to distort prices and the ultimate allocation of resources.
4.1.2 Barriers to entry
f In some sectors entrepreneurs can create a start-up really easily. In others it
may be practically impossible to start from scratch. In the former case, the
market is said to be contestable, because competitors can easily break into it.
In the latter case, barriers to entry make it both difficult and expensive to start
a new business. Easy entry means that a relatively small investment will be
sufficient to start a business. Someone with a good idea and appropriate skills
will have costs of production that can be covered at a reasonably competitive
price. Entry may be easy for small new businesses, but also large businesses
seeking to diversify their product range may have the necessary resources to
enter the market. Examples might include bed and breakfast or accountancy
services.
g Barriers to entry can range from modest to highly significant. High start-up
costs can make entry almost impossible. Many kinds of manufacturing
processes require major investment in capital equipment, training and
research, making entry very difficult. Brand loyalty may make it difficult to
market a competing product. Creating a distinctive new product may require
extensive R&D.
h High barriers to entry make it likely that there will be relatively few competitors
in the market, so markets for manufactured goods tend to be oligopolistic.
Successful businesses will be big enough to afford the initial investment and the
costs of innovation. Analysis of market structure will usually require extended
consideration of barriers to entry.
i Economies of scale were studied in section 2.1.1. Revision of each type of
internal economy is required with particular reference to technical, marketing
and risk-bearing economies. They account for the ease with which bigger
businesses can cut costs; if there is sufficient competition they can lead to price
cuts. They can create significant barriers to entry.
4.1.3 Oligopoly
a Concentration ratios show the percentage of the market accounted for by a
given number of businesses, usually the biggest five or three firms in the
market. They can be calculated from market share data.
a Competition in an oligopoly may range from quite muted to very fierce. There is
almost always strong non-price competition, using product differentiation and
extensive advertising. One business may feel very confident and reduce prices
in order to increase market share – supermarkets do this. Another may charge
a premium price – think of Apple and the iPhone. Always, businesses within an
oligopoly will watch each other closely: they are said to be interdependent. Any
action by one is likely to produce a market response in others. Samsung sought
to produce an equally attractive phone and sell it at a lower price. Markets with
less technological change may keep prices stable in order to avoid the losses
that may be associated with a price war.
b Tacit agreement results when competing producers don’t make big changes.
They don’t actually communicate with one another but they avoid active
competition. Keeping prices steady makes it possible for all the businesses in
the market to stay reliably profitable.
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c Price discrimination means charging different prices for the same product in
different markets. Rail operators are most likely to do this, charging commuters
more than they charge off-peak travellers. It is easy to keep the markets
separate because commuters all travel at the same time of day. Price
discrimination works by exploiting variations in price elasticity of demand in
different market segments.
4.1.4 Business objectives and pricing decisions
a Average cost, average revenue and profit are covered in section 1.6 and this
work should be revised. This is a good time to explore the impact of economies
of scale (section 2.1.1) on average total costs; it would be worth looking at the
U-shaped average total cost curve and whether in fact it may have a long flat
bottom. This can have an effect on business strategies for growth and
objectives generally.
b Economic decision making usually relates to what happens at the margin.
Typically, firms might be deciding to produce a little more or a little less in
response to market changes. Costs will increase or decrease by small amounts
as output changes. It pays the business to produce more so long as the extra
revenue is greater than the extra cost. Profit will be maximised when marginal
cost is exactly equal to marginal revenue. Marginal costs and revenues can be
found by calculating the change in total costs and total revenues when output
increases/decreases by a certain amount.
c Contribution decisions illustrate the significance of the margin. Students should
revise section 1.6.2 and look at an example of how a reduced price can
increase profit provided that it makes a contribution to fixed costs. Essentially,
they are looking at the marginal cost and the marginal revenue of a small
increase in output.
d For some businesses, growth is an important objective. If their market is not
growing, then they must look for a way of increasing market share and pricing
may be made more competitive. For others, profitability may be more
important and this may involve quite different strategies, possibly concentrating
on specific market segments and charging premium prices. Reputation may be
a significant objective and the response will be different again. Varied case
study material is required.
4.1.5 Productive and allocative efficiency
e Productive efficiency is all about getting the best possible standard of living
from the resources available. It involves minimising production costs, strategies
such as lean production and/or more effective management techniques.
Allocative efficiency is completely different, referring to the extent to which
resources are allocated in a way that best meets consumers’ preferences.
If businesses respond effectively to changes in consumer demand, there is
allocative efficiency.
f Decisions usually have an opportunity cost (section 1.1.1); there may be
trade-offs. At the margin, consumers may decide whether to buy more meat or
more fish. If there is increased demand for meat, prices will rise and farmers
may respond by increasing the size of their herds. Governments may be forced
to choose between spending more on care of the elderly or more on education
of the very young. Resources are finite and, for allocative efficiency, the choice
made must be the one that most closely matches consumer preferences.
g Productive efficiency leads to higher productivity (section 2.3). Technological
change, training, education and more efficient management can all lead to
significant reductions in production costs. The quality of the product may
improve too, giving it more value.
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h The market system creates incentives for businesses to create products that
maximise consumer satisfaction. The more successfully they meet their
customers’ preferences, the more profit they will be able to make. Markets that
function well in this way enhance allocative efficiency. Market-orientated
businesses help to make this outcome more likely.
i Many of the inputs used in a production process will be bought in from other
firms. So if a maker of vehicle components becomes more efficient, prices may
become more competitive and that will help the vehicle manufacturer to cut
costs too. Markets also interact where there are changes in costs and prices of
substitute and complementary products.
4.2 Market power and market failure
Markets are usually seen as providing an efficient way of allocating resources.
Competition between providers ensures that businesses will strive to keep costs
and prices down. The price mechanism ensures that businesses will produce the
kinds of products that customers are seeking. The whole process will create an
allocation of resources that gives society the best deal that can be obtained with
the available resources.
However, vested interests may intervene and create the conditions for market
failure. Businesses find competition difficult to live with: they are constantly
struggling to hold on to their customers and stop them from choosing other firms’
products. But to the extent that they successfully reduce the power of the
competition, they may be charging the customer more than the true costs of
production. This makes many people worse off than they need be. The key factor
is power in the marketplace: businesses will try to achieve it but, in so doing,
they may lose the efficiency which can improve standards of living.
Business regulation seeks to prevent market failure in ways that protect the
interests of both consumers and employees. Students are not expected to learn
the details in each major piece of legislation but they do need to know why
regulation is important, how it works and what disadvantages it may have.
Throughout, students should be examining case study material that provides
good examples. Investigating current issues is particularly helpful, especially
when students can follow the progress of a particular case which is concluded
during their course.
Before starting this section, students should revise relevant earlier work, in
particular: business and stakeholder objectives (1.1); markets and the price
mechanism (1.4); market failure (1.5); business growth (2.1); and marketing
and elasticities (2.2). They must also keep in mind the content of the previous
section (4.1).
4.2.1 Market failure
a Businesses have many ways of acquiring and reinforcing their market power.
Product differentiation, branding and some pricing strategies can help them to
increase their market share and may play a part in enhancing market
efficiency, especially when they encourage the use of new technologies.
However, they may try to collaborate with competing businesses in ways that
enable them to charge higher prices. This will reduce consumers’ spending
power and lead to lower standards of living. Similarly, large numbers of
employees may belong to a trade union that encourages industrial action; it
may act like a monopolist and become, effectively, a single seller of the
appropriate labour. This can raise production costs and prices. Another kind of
market power may occur when there are limited job choices available to those
seeking work. They may receive very low pay because there is a monopsonist
employer with considerable market power and few alternative jobs to apply for.
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This section should enhance understanding of the fact that the model of perfect
competition is in marked contrast to the markets in which anti-competitive
practices distort the allocation of resources and standards of living are
negatively affected.
b Students should consider the many ways in which organisations can develop
market power and the effect that this will have on the efficient functioning of
the market concerned. They should explore the way in which vested interests
may take decisions that will increase profitability and the extent to which such
decisions may run counter to the public interest. They must be aware that
economies of scale and new technologies often lead to lower prices and new
products, while simultaneously enhancing the market power of the producer.
Studying a natural monopoly too may highlight a situation where market power
is inevitable but can be in the consumers’ interest if appropriately regulated.
Governments can be affected by the market power of suppliers – for example
when they are awarding defence contracts – or by bilateral monopolies where
both buyer and seller have market power – for example when the British
Medical Association is negotiating pay with the NHS. The winner will be the side
with the most powerful negotiating skills.
4.2.2 Business regulation
Throughout this section, case study material is needed to demonstrate the range of
common issues.
a Each source of market power has a possible solution that will enhance
competition and help the market to work more efficiently. This work used to be
covered by the Office of Fair Trading but in early 2014 it was replaced by the
Competition and Markets Authority (CMA). This is an official body that prevents
anti-competitive practices, carries out market studies, and reviews takeovers
and mergers to ensure that they are in the public interest.
b In a natural monopoly, having more than one supplier involves duplication of
resources. Water is the best example because competition would require at
least two sets of pipelines. Many natural monopolies were nationalised in the
1940s and after. Most were privatised in the 1980s and after, with a view to
increasing efficiency and encouraging competition but without duplication of
resources. However, they still have potential to charge the consumer more than
is needed to ensure the supply. As such, regulators draw up strict rules for
businesses in these markets to ensure that they provide a good service at a
reasonable price. The outcome is often controversial; students should explore
the arguments of both sides with appropriate case studies.
c Students need to understand why consumers need protection and the kind of
problems that are likely to occur, but do not need to learn the specific details of
the legislation (although they may want to learn about the penalties awaiting
guilty parties). The CMA deals with issues relating to unfair contract terms and
the use of misleading pricing strategies. There are plenty of relevant examples,
such as the way furniture retailers regularly advertise special sales with
discount prices, interspersed with brief periods when the ‘normal’ higher price
operates. This makes it hard for customers to work out whether the price they
are offered really is competitive.
d The CMA replaced both the OFT and the Competition Commission in March
2014; the objective was to reduce duplication of effort and streamline the
regulation process. In terms of the implementation of competition law, future
cases will probably be broadly similar to those of the past, so case studies do
not have to be very recent but should include a merger investigation and a
prosecution or investigation of an anti-competitive practice.
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e Globalisation means that, increasingly, cartels, collusion and price-fixing
activities involve businesses in more than one country. The CMA collaborates
with both the US anti-trust authorities and the EU Directorate General for
Competition, which is part of the EU Commission. The case of Microsoft is
perhaps the best known example of collaboration. In the US, anti-trust action
will usually be triggered by a market share of around 60%. In the EU, a market
share of 38% is taken as evidence of market power. In the UK, a monopoly is
defined as 25% of the market but usually a more nuanced approach is taken,
with attention being given to whether the market is actually contestable.
f Employee protection is important because it requires firms to provide a safe
environment for employees and to comply with the law on the process of
employee dismissal. Where there are few choices about where and with whom
jobs are available, employers may have the market power to exploit their
employees with low pay and by dodging safety requirements. Although the UK
has a very flexible labour market by EU standards, regulation is still important
to prevent the worst abuses.
4.2.3 Arguments for and against regulation
a Regulation has done much to improve the quality of life for consumers and
employees. Products are generally safe. Competition provides goods and
services at lower prices, increasing standards of living and wellbeing.
Students should be aware that the EU single market was designed to create a
level playing field for all business, leading to strong competition with rules that
are fair to all. Harmonising regulation makes this a reality.
The trade-off between employee protection and the level of employment and
job creation is very real. Flexible labour markets in the UK and the Netherlands
have been credited with facilitating lower rates of unemployment and livelier
job creation. Germany got good results from similar structural reforms in the
labour market of the early 2000s. The French government is aware of the need
for similar policies as it grapples with high unemployment. Students should be
aware that the UK already has less employment protection than many similar
economies.
b Regulation can be costly for businesses. Safe working environments, minimum
wage rates and product standards can all increase their costs of production.
Not being able to collude with one another may force them to compete on
price. Almost all regulation has some potential to reduce profitability, so
businesses typically complain about regulation and lobby politicians to try to
reduce it.
It is important to displace populist attitudes with some case-by-case
consideration of exactly what types of regulation are damaging to business and,
of these, which might be eliminated without very detrimental effects on people.
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4.3 Market failure across the economy
Market failure was introduced in section 1.5. Students should revise section 1.5
carefully before going on to explore market failure in greater depth.
Within society, freely functioning markets can fail to deliver an efficient allocation
of resources. Some goods and services may not be produced at all; others may
be produced but not in the quantity that would provide the optimum outcome for
society. (Section 4.2 explored the way in which lack of competition may lead to
smaller quantities supplied at higher prices.)
Free markets may also provide products that have detrimental effects on the
economy and society. Markets may fail to clear; this means that there may be
excess supply or excess demand that persists for long periods. There may be
asymmetric information: either the buyer or the seller may know more about the
product and its market than the other. The deal will be much more favourable for
the one who knows more than it is for the other.
This section looks at the ways in which a variety of markets may fail and how the
allocation of resources may change to a mix that provides optimum benefits to
society. Students should have a good understanding of positive and negative
externalities and the impact that these may have on individuals and society as a
whole. They should be aware of the possibility of comparing costs and benefits
where there are alternative possibilities, but they do not need to study cost
benefit analysis in detail. They should understand private, external, and social
costs and benefits, but they are not expected to use the diagrams for marginal
social costs and benefits.
In examining the impact of market failure in the economy and society, the
environment, public and merit goods, labour market issues and welfare issues
should be explored. However, there may be other areas in which markets are
seen to be failing, and students’ understanding of market failure and externalities
should be sufficient for them to be able to apply it in unfamiliar contexts.
4.3.1 Market failure in society
a–f Using a range of real-world scenarios, students will develop an understanding
of the ways in which markets can fail. They should appreciate the distinction
between public and merit goods. They should understand why healthcare and
education, as well as public goods and other merit goods, may be under-
produced and under-consumed in the absence of government intervention.
Exploring a range of examples of both positive and negative externalities will
provide insights into the reasons for over- and under-consumption. Study of
negative externalities will relate to the detrimental effects of environmental
congestion and pollution. Negative externalities also explain the existence of
demerit goods which may be over-consumed, looked at from the point of view
of society.
The existence of imperfect and asymmetric information explains why the
market price does not always reflect the true cost of the product. Students may
find the debate about the misselling of financial products to be useful in this
respect. Factor immobility refers either to situations in which people seeking
work may be some distance from the locations where there are job vacancies,
or to situations in which they are available to work but do not have the
necessary skills to fill existing vacancies. Real-world examples are key to
understanding all aspects of this section.
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4.3.2 Externalities
a Externalities include all the costs and benefits that affect people and
communities that are neither buyers nor sellers of the product in question.
They are economic side-effects, sometimes known as spillover effects.
Negative externalities impose costs on society that are not paid for either by
the producer or by the consumer. They include pollution, congestion and noise.
Private costs are included in the price of the product; external costs are usually
not. Social costs include both private and external costs and reflect the true
cost of production. Private benefits are paid for by the buyer but positive
externalities benefit people who have not had to pay for them – these are social
benefits. Some external costs may be described as economic costs, if they are
quantifiable. For example, the economic cost of congestion can be estimated,
whereas the cost to society of excessive noise cannot.
b The price that can be charged, through the profit-signalling mechanism,
determines many business decisions about how much should be produced.
If there are external costs, the amounts produced and consumed will be greater
than they would be if all costs could be built into the calculation of price. There
will be over-consumption because of negative externalities such as pollution,
which mean that the polluter does not have to pay for the full costs to society.
c Externalities are particularly visible in the effects on the environment of modern
production and consumption. Energy consumption in particular is likely to
involve prices that do not fully reflect the negative externalities and the social
costs of energy use.
4.3.3 Policies to deal with market failure
a Public goods should be defined as those that no one can be excluded from using
if they are provided (non-excludability) and are available regardless of how
many people benefit (non-rivalrous). Street lights are the standard example.
However, these goods must be provided collectively because no individual has
an incentive to provide them at all. Both public and merit goods address the
problems of under-consumption of products that offer benefits to society as a
whole: street lights reduce accidents, while an educated workforce leads to
higher productivity and growing incomes across society. These are positive
externalities.
b Indirect taxation may raise prices so they are closer to the full social cost of the
products concerned. This may reduce the consumption of demerit goods, for
example tobacco products. Tradable permits can create an incentive for
businesses to move towards less (and more efficient) fossil fuel use. If they can
cut their emissions, they may be able to sell their permits to others that have a
greater need for energy. Information, legislation and regulation all play a part
in alerting decision takers to the need for responsible decision making.
Students should consider the effectiveness of these measures; tradable permits
in the EU have not always appeared to work well.
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4.4 Macroeconomic policies and impact on firms and individuals
Previous work on this topic includes sections 2.5 and 2.6 on the economic cycle
and macroeconomic policy. This section requires increased depth of knowledge,
together with an ability to analyse and evaluate the likely effects of specific
policies. Revision is required, along with the more holistic view that is facilitated
by wide-ranging subject knowledge.
This section requires students to learn the underpinning theories that will enable
them to produce a more systematic analysis of events. In particular, the AD/AS
model will allow students to achieve a stronger understanding of how the
variables change over time and in relation to the economic cycle. They will learn
how some situations require a combination of policies that can address potential
policy conflicts.
It is quite possible that students will be studying the UK economy at a time when
inflation is so low that it never becomes a problem. However, we cannot be sure
about this so inflation must be included in the content of this section, even if only
because low inflation would indicate some success in this policy area.
4.4.1 The AD/AS model
a Aggregate demand (AD) has a range of component parts. One way to introduce
this would be to look first at the circular flow of money in the economy, which
shows how healthy investment, government spending and exports can increase
aggregate demand and savings, and taxation and imports can reduce it.
b Changes in aggregate supply (AS) arise for two separate reasons. Lack of
demand in the economy may cause business to cut production. However, this is
a movement along the AS curve, not a change in the capacity of the economy
to produce. So is an increase in supply that is simply a response to rising AD.
These are usually termed short-run changes in AS. Longer term, aggregate
supply may increase because investment and innovation can increase the
productive capacity of the economy. This produces a long-term shift of the AS
curve to the right.
c Full capacity output is the amount of goods and services that can be produced
when all usable resources are fully employed. This situation would be
associated with low levels of unemployment, healthy economic growth and
rising aggregate demand.
d If AD is growing fast and the economy is already at its full capacity output, output
cannot increase in the short run. Imports might rise to plug the gap but this is an
excellent time for businesses to raise their prices. They can charge more and still
sell their products. Profitability will increase but so will the rate of inflation. This will
continue until economic policy changes. Given time, the economy may grow
because many businesses are investing and using new technologies. But in the
meantime, contractionary policies will be required to stop inflation from
accelerating. Similarly, if AD is growing more slowly than AS, businesses will be left
with unsold goods and will cut production and, after a while, employment too. If
this process continues, expansionary policies will be required.
e The multiplier is most easily seen in the context of the circular flow of money.
Any injection into the circular flow (which could be increased investment or
government spending) will raise AD and lead to some businesses and perhaps
also the government (for example via the NHS) expanding and taking on more
labour. That will increase incomes for some people, who will then be able to
spend more than they could previously. This extra spending translates into
increased demand for a wide range of products and it will also make businesses
feel more confident about investing. The economy will expand. In this way a
relatively small amount of extra spending on investment or public services will
gather momentum that leads to continuing economic growth.
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f The AD/AS model gives insight into how changes in one part of the economy
will affect other parts of the economy. If demand is falling, output will fall and
so will incomes and employment. If there is technological change along with
some growth in aggregate demand, it will be possible for the economy to
expand without accelerating inflation. But AD/AS is not an all-purpose
macroeconomic model because it ignores certain variables that may influence
outcomes considerably. These include the effects of expectations and
uncertainty, of monetary policies, and of changes in income distribution.
In addition, the model will give different predictions depending on whether the
supply curve is treated as short or long run. Sophisticated macroeconomic
models have many more variables. In practice, it is important for students to
understand that there are many influences on the economy and these may be
crucial to the outcome. Detailed analysis of the limitations of the AD/AS model
is not required.
4.4.2 Demand-side policies
a Fiscal policy is determined by the government and may involve changes in
spending on public services or changes in tax rates (income tax, VAT and excise
taxes on specific products). If unemployment is high, policy may be
expansionary, but if inflation is accelerating then it will be contractionary. The
Bank of England is responsible for deciding monetary policy; although it keeps
in close touch with the government, it has a large measure of independence.
The objective of this is to ensure that governments cannot pursue expansionary
policies just in order to win a forthcoming election.
b Expansionary policies leading to rising AD will give businesses an incentive to
produce more; sales will be brisk. The economy may expand steadily but, if the
process goes on for too long, the result may be accelerating inflation. Similarly,
contractionary policies will depress AD leading to lower output and then
redundancies and unemployment.
c Students are required to draw AD/AS diagrams that capture specific situations
arising from changes in AD. These will underpin their analysis of dynamic
change in the economy.
d Both fiscal and monetary policies can be used to encourage investment, job
creation and economic growth, but supply-side policies are important too.
Usually there is a need for a policy package that can deal with a range of
problems and help to create optimistic expectations that will make investment
look worthwhile. This may involve the private sector or the public sector. For
example, there may be more spending on infrastructure projects. Education
and training to improve skills can be very helpful in the long run.
e Controlling inflation and unemployment can involve both demand-side and
supply-side changes. However, supply-side changes are usually long term in
nature, and the emphasis will normally be on fiscal and monetary policies to
address the immediate problem.
f Time lags need to be considered because the full effect of policy changes takes
up to two years to appear. Unemployment usually persists for 12–18 months
after the economy has begun to grow after a recession. (The UK in 2014 was
exceptional in this respect.)
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g Demand-side policies work faster than supply-side policies. A major objective of
fiscal policy is to adjust it so that it has a stabilising effect on the economy.
However, fiscal policies can easily overshoot; any policy that raises aggregate
demand may in time lead to accelerating inflation that may be hard to reverse.
Expansionary policies may require deficit funding, in which case government
expenditure will rise and, if interest rates are high, borrowing may be costly.
Timing may be crucial. Similarly, tax cuts may be possible but may also raise
borrowing costs. There may be a trade-off between inflation and
unemployment. Expansion may be good for incomes and employment but lead
to overheating, skill shortages, rising imports and accelerating inflation.
Government borrowing may increase interest rates which may in turn make the
currency more attractive and push up the exchange rate, reducing
competitiveness. This list could continue with examples drawn from
contractionary policy consequences.
h Potential policy conflicts occur when an appropriate policy has knock-on effects
that make it harder to achieve other desirable objectives. The trade-off
between inflation and unemployment is the most significant but there are many
other trade-offs; counter-inflation policies may slow economic growth and
policies to redistribute income may entail increased benefits that reduce the
incentive to work.
4.4.3 Supply-side policies
a Market-based supply-side policies aim to make markets work more efficiently,
whereas interventionist policies actually exert a measure of control over the
market. The dividing line between the two is not precise but has political
significance: left-leaning politicians may favour more intervention whereas
right-leaning politicians may favour policies that free markets from legal and
financial constraints and create incentives. (Notice that fiscal policies appear in
both categories, as well as being demand-side policies.)
b Market-based policies can include reducing both taxation and government
expenditure while also cutting any public sector deficit. This might improve
incentives to work and create jobs, although this is controversial. Other
market-based policies include relaxation of employment protection law, which
makes the labour market more flexible and encourages job creation;
privatisation; reducing trade barriers; and facilitating immigration to address
skills shortages. Competition policy makes markets more efficient by using legal
measures in a very interventionist way to prevent anti-competitive business
decisions. Other interventionist policies include investing in public services,
infrastructure, education and skills training; regional policies; and business
regulation, including controls on the financial sector. Changes in taxation,
welfare payments and the minimum wage can create an incentive to work; they
are classed as interventionist because they involve direct government action
but they have the potential to make labour markets work better, reducing
unemployment.
c The AD/AS diagram should be used to analyse the impact of supply-side
policies. The AS curve will shift to the right, indicating an increase in productive
capacity and potential for non-inflationary economic growth and job creation.
However, supply-side policies are almost always long term in nature; they may
be powerful but it usually takes several years for their beneficial effects to
emerge.
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d A weakness of supply-side policies is that they have little impact in the short
run. The effects may not show up during the lifetime of the government so
potentially useful policies may never be adopted. Some supply-side policies are
unpopular with large numbers of people, for example regulation, which voters
may oppose. The strength of supply-side policies is that they can be made to
address the root cause of a problem that is preventing growth in output. They
can be used to tackle vested interests that can benefit from restricting output
and pushing up prices, for example through competition law. Supply-side
policies can increase productivity and improve competitiveness.
e Some supply-side policies make markets work better but have a downside. For
example, when labour markets are made more flexible, employees are more
likely to be made redundant. This has to be set against the benefits that come
from employers being able to hire people without worrying that they may have
to employ them forever, even if circumstances change. It is generally believed
that the UK’s flexible labour market keeps unemployment below that of France
and some other developed economies. Policy conflict may appear if austerity
policies (with tax increases and expenditure cuts) are required at a time when
increased spending on education and training is clearly needed to reduce skills
shortages and facilitate innovation. Other trade-offs may appear as
circumstances change.
4.4.4 The impact of macroeconomic policies
a Macroeconomic policies affect the economy in different ways and the outcome
depends greatly on the state of the economy at the time of implementation.
Students should aim to provide carefully qualified explanations of likely
outcomes, placed in the context of the underlying economic situation and the
data that is available to them.
b Most macroeconomic problems require a policy package that includes a range of
different measures. Students should be able to compare alternative approaches
within the context of the underlying economic situation and with reference to
recent developments.
c Students should be able to identify the economic and political objectives that
trigger policy change and to evaluate the likely effectiveness of specific policies
in relation to the relevant objective.
4.5 Risk and the financial sector
This section provides students with an overview of the events surrounding the
Global Financial Crisis. Students are not required to develop a detailed
understanding of financial markets and the banking system. The focus should be
on the key aspects which can be applied to appropriate contexts.
Students should revise the role of the banking system introduced in section 1.3.3.
4.5.1 Risks and uncertainty
a Risks can be quantified. The probability of an event occurring can be
calculated by looking at the circumstances in which it has occurred in the past.
Therefore businesses can work out how risky a possible course of action is and
make allowances for this in their planning. Uncertainty is different: it covers
situations that may or may not happen but there is no way of knowing how
likely they are. We simply do not know how likely it is that some particular
events will occur. The difficulty is that government policies take time to work
and decision takers have to adopt the policies they think they will need in the
future on the basis of what has been happening lately. If they do not make
allowances for time lags, their policies may turn out later to have been
mistaken.
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b Shocks are unexpected changes that have a significant impact on the economy.
They may be caused by natural disasters or by human error. The most recent
was the Global Financial Crisis that developed in the period between 2007 and
2009, which was caused by excessive risk-taking in the financial sector.
c Some risks can be insured against: people insure their lives, their homes and
their cars. Businesses that need to buy and sell in foreign currencies can insure
against exchange rate changes using forward markets. These allow them to buy
a certain quantity of a currency at a price that is agreed now, and they will
receive the money on a particular date in the future. This is very useful for
businesses that know they must pay for something in foreign currency on a
future date and do not want to find that it is costing much more because the
exchange rate of that currency has risen in the meantime.
d In general, insurance reduces risks. By paying a premium now, we avoid an
unpleasant surprise in the future. Businesses can include the premium in their
accounts, treating it as a cost of production and using it to help set the prices
they are charging. The risk of making a loss is reduced.
4.5.2 The role of the financial sector
a Revising section 1.3.3 will be helpful here. Individuals borrow to fund property
purchases; businesses borrow to fund investment and for working capital.
People and businesses save in order to have funds for emergencies and to
spend in the future. Savings usually need to be safe and secure; too much risk
would defeat the purpose of saving. Banks take in savings deposits and pay a
fairly reliable, if often low, rate of interest. They provide safety and channel the
funds towards businesses that want to invest, charging a higher rate of interest
than they give to savers. The difference between the two rewards the banks for
carrying risks and covers the costs of banking processes.
b Businesses need working capital to cover the gap between paying for the costs
of production and receiving payment from the customer. (Some businesses pay
their customers 60 days after delivery.) Banks are a major source of loans and
overdrafts for working capital.
c Consumers need to borrow in order to buy expensive items; they need
mortgages in order to buy their homes. Banks provide loans and overdrafts to
reliable individual customers.
d Any kind of trade requires payment mechanisms. Banks provide these for both
domestic and international trade.
e Banks would not be able to carry risks unless they could evaluate the
probability of a loan not being repaid. Investigating the level of risk can be
costly but makes it possible for banks to act as intermediaries between savers
and borrowers. However, mistakes can be made in the estimation of risks,
which was one cause of the financial crisis.
f Banks can help businesses that need to arrange purchases ahead of the time
they are needed, i.e. in the forward market. For example, they draw up
contracts for future deliveries of raw materials or for buying foreign exchange
on a specific date. For the business, this reduces the risks associated with price
or exchange rate changes.
g Until 1987, only specialist stockbrokers could buy and sell equities (shares) to
the general public. Most banks now provide this facility; many stockbrokers
have been taken over by banks.
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4.5.3 The role of the central bank
a The Bank of England was made independent of the government in 1997. This
meant that the government was no longer taking monetary policy decisions,
even though the Treasury keeps in close touch with the bank. The Monetary
Policy Committee (MPC) was set up to consider and decide on the level of the
base rate on a monthly basis. Its deliberations are minuted and then published
approximately two weeks later so that the process is open to scrutiny. The MPC
comprises nine members, including Bank of England officials and independent
experts. Their target, set by the government, is a 2% rate of inflation. This is
symmetrical and a deviation beyond 1% in either direction requires a letter of
explanation from the Governor of the Bank of England to the Chancellor of the
Exchequer. (Inflation below 2% can mean that prices are inflexible and this can
make it harder for the economy to grow in a normal, healthy way.)
b The base rate is set so as to meet the 2% inflation target and create long-term
stability in the macroeconomy. If aggregate demand is growing faster than
aggregate supply, the demand will bid up prices and inflation will accelerate.
Demand can be damped down by raising rates of interest, making borrowing
more expensive. This will discourage investment and consumer borrowing. The
early signals that demand is growing too fast can usually be seen in the form of
skills shortages across a range of industries. If inflation is too low, there will
probably be rising unemployment and underutilised capacity in many
businesses; there is scope for faster economic growth. In addition to controlling
interest rates, central banks can buy assets from other banks and this pumps
money into the economy. This is known in the UK as quantitative easing. These
assets are mostly bonds sold to cover the public sector deficit but also bonds
that are effectively loans to businesses. It is a useful way of stimulating the
economy if low interest rates are having little effect.
c Banks occupy a key position in the economy. It is important that they survive;
if they are making big losses, their lending has to be curtailed, which can be
disastrous for borrowers. The Financial Policy Committee (FPC) comprises
senior officials at the Bank of England, other officials with major responsibilities
for bank regulation, and economic policy specialists. They meet quarterly to
take a more long-term view of the state of the economy and the position of the
banking system within it. The FPC’s objectives are to ensure financial stability,
to reduce risks, to ensure that the financial system remains resilient and to
support government policy. It focuses on determining the underlying principles
of effective banking regulation.
d Central banks have always been expected to act as lenders of last resort. This
means lending to banks when they are temporarily unable to meet customer
demands to withdraw money. There are two sides to this: smoothing out the
day-to-day fluctuations in the money markets and lending to banks that are in
serious difficulty.
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4.5.4 The Global Financial Crisis
This section requires the consideration of complex issues but students do not need
to analyse the Global Financial Crisis in detail. This section indicates the required
level of detail, and further resources will be provided on the Edexcel website to
support the teaching and learning of this new content area.
a For some years before 2008, banks had increasingly offered mortgages to
people who could only afford to pay for them if house prices continued to rise
and they managed to keep their jobs. (This actually increased the demand for
property and led to a housing bubble.) This started in the US but was also
common in many European countries, particularly the UK. In 2007, many
booming economies began to slow down: their growth had become
unsustainable. As unemployment rose, increasing numbers of people defaulted
on payments and their homes were sold by the banks. This reduced property
prices. Lenders made losses; they had speculated and taken unjustified risks.
The banks had been unwise but they could not be allowed to fail because that
would lead to widespread business failures and the resulting effect on the
economy would be grave.
Moral hazard means that the protection offered to banks enables them to take
greater risks without the fear of bankruptcy – they can always turn to the
lender of last resort. In 2008–2009, at the height of the financial crisis, the
banks stopped lending to each other and also made drastic cuts in their lending
to businesses. They switched from risking too much to refusing to take any
risks at all. Investment and business activity slowed and the economy went into
recession. The excessive risk-taking prior to 2007 was, to a significant degree,
a product of the organisational culture of the banking system. Bankers
developed complex models that seemed to show that it was safe to take a
range of risks, such as offering sub-prime mortgages. Their bonuses created an
incentive to sell as many profitable financial products as they could, regardless
of the risks involved. These incentives focused on short-term gains, so many
financial bodies took decisions that a far-sighted culture would have
discouraged. When the assumptions that underpinned the models proved
wrong (for example, house prices did not continue to rise), the whole system
began to crumble.
b Banks have been regulated for a long time but regulation had become less
strict, no longer able to prevent banks and other financial bodies from taking
excessive risks. Since 2009, financial regulation has been strengthened, despite
arguments against it from many banks; they must keep larger reserves than
previously. The process of defining the rules and monitoring the banks is
ongoing; some possible controls have been discussed but not implemented.
However, most commentators believe that risks have been reduced.
The Financial Conduct Authority supervises the entire financial services sector.
It is independent of the Bank of England, regulating consumer credit, promoting
competition and ensuring that customers get a fair deal. The Prudential
Regulation Authority is part of the Bank of England and supervises banks,
building societies, credit unions, insurers and major investment firms.
It promotes the safety and soundness of these bodies in order to ensure that
the financial system is stable and contributes effectively to the health of the
economy.
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c The financial sector is a key element in the functioning of a modern economy.
An efficient money market is essential to healthy investment and efficient
production. It helps people to buy homes, helps investors to increase
productivity and leads to improvements in living standards. However, there are
several ways in which financial markets can fail. Lack of confidence can cause
the supply of funds for investment to dry up, making life very difficult for
businesses. This in turn can lead to businesses closing down and making
employees redundant, so that incomes fall substantially. Furthermore, financial
intermediaries can develop products and procedures that are potentially
profitable for them but actually unfair to the consumer. Misselling of various
financial products has been allowed to continue when it should have been
tackled vigorously by regulators. Many such situations have led to
compensation for customers and fines for sellers, but not before they did much
damage. Financial products – such as investment schemes, pensions and
insurance policies – are often very complex, sometimes intentionally so. This
means that there is asymmetric information: the seller understands the true
nature of the product but the customer does not. It is very easy to sell an
inappropriate product to the customer in these circumstances. New financial
regulation procedures are addressing these issues. This is in marked contrast to
the pre-2008 period, when ‘light touch’ regulation was considered to be good
for the economy because it encouraged business activity and economic growth.
5. Assessment guidance
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5. Assessment guidance
5.1 Implications of linear assessment
For the AS level qualification, both exams (Paper 1 and Paper 2) must be sat at the
end of the course – normally one year. First AS level assessment for the new
specifications is 2016.
For the A level qualification, the three exams (Paper 1, Paper 2 and Paper 3) must
be sat at the end of the course (normally two years). First A level assessment for
the new specifications is 2017.
There will be no January assessment window and it will not be possible to take
exams for the same qualification in different exam series: all assessments must be
completed together at the end of the course.
It will not be possible for students to re-sit individual components. Students may
re-take the whole AS or A level qualification.
5.2 AS level assessment
The focus at AS level is on building knowledge and understanding of core economic
concepts, with a greater emphasis on breadth rather than depth.
There are two externally assessed papers at AS level. Each paper comprises
80 marks and is 1.5 hours in duration.
Each paper assesses distinct areas of the specification content, with Paper 1
assessing Theme 1 content and Paper 2 assessing Theme 2 content. In each paper,
Section A and Section B are based on stimulus material and assess breadth, with
data-response questions (including short-answer questions) that have a greater
focus on AO1 and AO2. These questions integrate the requirements in the
assessment objectives, ensuring that knowledge is not demonstrated in isolation
from business applications. The stimulus material will be drawn from various
business contexts.
Section C is based on stimulus material and assesses depth, enabling students to
demonstrate higher-order skills. The extended open-response question in Section C
assesses extended writing skills and enables students to make connections between
the economic concepts and business contexts.
The structure of the two papers is the same to ensure a consistent approach to
assessing the different content areas.
All of the stimulus material is based on real economic and business issues, real
business contexts and real data. This supports students in developing a
contextualised understanding of how the core concepts and theories relate to the
real world in which they live and work. This approach also supports students in
genuine application of economic concepts and theory to a range of relevant
business contexts.
At AS level, synoptic assessment is achieved through linking topics within themes –
students are required to make connections between topics and understand the
linkages across core content areas.
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5.3 A level assessment
There are three externally assessed papers at A level. Each comprises 100 marks
and is 2 hours in duration.
Paper 1 and Paper 2 assess distinct areas of the qualification content, with Paper 1
assessing Theme 1 and Theme 4 content, and Paper 2 assessing Theme 2 and
Theme 3 content. In each paper, each section is based on stimulus material.
Section A comprises data-response questions (including short-answer questions),
which have a greater focus on breadth and AO1 and AO2. The short-answer
questions integrate the requirements in the assessment objectives, ensuring that
knowledge is not demonstrated in isolation from business applications. Sections B
and C comprise an extended open-response question which assesses depth,
enabling students to demonstrate higher order and extended writing skills.
The stimulus material will be drawn from various economic and business contexts.
As with the AS level, all of the stimulus material in the A level is based on real
businesses and real data to support students in developing a holistic understanding
of how the core concepts and theories relate to the real world in which they live
and work. This approach also supports students in genuine application of economic
concepts and theories to a range of business contexts.
At A level, synoptic assessment is achieved through linking themes across the
specification (Theme 1 and Theme 4 in Paper 1, Theme 2 and Theme 3 in Paper 2),
linking topics within themes, and linking across all themes (in Paper 3). At A level,
students are required to make connections and understand the linkages across the
whole specification content.
A key differentiator between the AS and A level assessments is that the A level
papers draw on content from across all four themes; unlike the AS, Theme 1 and
Theme 2 content is not assessed discretely at A level. A further differentiation is
provided in the style of questions at A level when assessing content that is covered
in Theme 1 and Theme 2. For example, students may be asked to define a concept
from Theme 1 in the AS level assessments but may be asked to explain the impact
of this concept in the A level assessments. Students may be required to perform a
calculation at AS level but may be asked to complete an additional step (such as
interpret the result of this calculation) at A level.
5.4 Pre-released context (A level Paper 3 only)
To support the investigatory nature of the specification, A level Paper 3 has a
broad pre-released context. This broad context will be released in November of the
previous year, will be available on the Edexcel website and will relate to the
examination series in the following summer.
The focus is on a broad context, such as an economy, industry, market or economic
issue. The first section of the paper will focus on this broad context and the second
section will focus on at least one strand within the context provided, such as a
particular firm. For example, in the sample assessment materials, the pre-released
context is the Indian economy and the strand is a business operating within India,
in this case JCB.
The purpose of the pre-released context is to enable students to conduct
independent learning and research. These are important skills to develop for
progression to university. The pre-released context provides a basis for further
research and investigation by the student. It is also an opportunity for them to
become familiar with current issues and trends, and enables them to draw on this
familiar context to respond to unfamiliar stimulus material.
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Each section of Paper 3 will contain unseen stimulus materials. Students will need
to apply to this evidence their knowledge and understanding from all four themes
and their understanding of the broad context. Through this, students will make
connections between the content and will demonstrate a holistic understanding of
the subject content (which is similar to the Unit 4b paper in the 2008 specification).
Both sections have the same structure but will require students to apply their
knowledge and understanding to two different unseen contexts which have been
chosen to reflect the breadth and depth of the subject.
The pre-released context supports the findings of research conducted with key
stakeholders, including universities, and supports the application of economic
theory to real-world business contexts.
5.5 Question types
A range of question types have been used across the AS and A level Economics B
assessments. All of the questions are based on stimulus material, underpinning the
importance of the application of knowledge and understanding to a range of
business contexts.
Short open-response questions have been used to assess both discrete knowledge
and understanding of economic concepts and issues (AO1), as well as the
application of these concepts to a particular business stimulus or context (AO2).
Questions assessing AO1 target lower-order skills. Short open-response questions
also allow for the development of student responses, requiring students to make
connections and show a logical chain of reasoning and therefore access higher-
order cognitive skills and demand (AO3). Extended open response items have been
used to assess across the breadth of assessment objectives.
5.6 Taxonomy (command words)
Taxonomy relates to the command words used in assessments. A taxonomy for
Economics B has been defined and will be applied consistently to ensure students
are rewarded for demonstrating the appropriate skills for the subject. Careful
consideration has been given to the taxonomies associated with particular question
types to ensure that assessment objectives are targeted consistently across
questions. The variety of command words used has been reduced to provide clarity
and consistency in the skills students are expected to display in the assessments.
The skills students are required to demonstrate in their responses are summarised
below and detailed in the skills-based mark schemes (see section 5.7).
Command Definition
What is meant
by/give AS only. Assesses factual information and requires a
definition or examples.
Calculate/using Assesses quantitative skills. ‘Calculate’ requires a
calculation and ‘using’ requires students to use a
prescribed diagram or formula.
Explain Requires a multi-stage definition relating to context and
includes analysis. In terms of graphs, includes
interpretation. Requires students to convey
understanding by making a point and linking the point
with a justification.
Analyse Requires a chain of reasoning, explanation and/or
justification. Does not include evaluation. In terms of
graphs, includes interpretation.
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Command Definition
Discuss Requires a balanced answer. Requires students to
develop arguments using logical, coherent chains of
reasoning. Requires evaluation.
Assess Requires a balanced answer supported by relevant and
well-chosen evidence. Requires logical, coherent chains
of reasoning, with developed and evaluated arguments.
Requires awareness of the validity and significance of
competing arguments.
Evaluate Requires a balanced answer supported by relevant and
well-chosen evidence. Requires logical, coherent chains
of reasoning, with developed and evaluated arguments.
Students will draw on evidence including strengths,
weaknesses, alternative actions, relevant data or
information. Requires awareness of the validity and
significance of competing arguments. Requires balanced
comparisons, judgements or conclusions.
These command words are used consistently between sections within papers and
across papers to ensure comparability.
5.7 Mark schemes
Skills-based mark schemes have been developed for extended open-response
questions (8, 10, 12 and 20 mark questions). These mark schemes provide a
consistent understanding of the skills and the connections between these skills for
each question type and relate directly to the taxonomies (command words) used in
the assessments. The bands within each mark scheme clearly show the progression
of these skills from the lower bands to the higher bands. Focusing on the skills
students are required to demonstrate within each command word ensures that
wording is clear, reduces reliance on subjective statements such as ‘some analysis’
and reflects how teachers and examiners describe the qualities of student work,
meaning the expectations are clear for teachers and for markers. There is a
skills-based mark scheme for each of the command words and these will be
applied consistently.
For example, below is the mark scheme for a 12 mark ‘assess’ question. The skills
outlined in the Assessment Objectives (knowledge and understanding, application,
analysis and evaluation) are connected and evidenced throughout the levels.
Level Mark Descriptor
Level 1 1–2 Isolated elements of knowledge and understanding,
using little or no relevant evidence. Arguments and
chains of reasoning may be attempted. Limited
attempt to address the question.
Level 2 3–5 Elements of knowledge and understanding, using
limited relevant evidence. Arguments and chains of
reasoning are presented, but with limited attempt to
address the question. Comparisons and judgements
may be attempted.
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Level Mark Descriptor
Level 3 6–9 Accurate knowledge and understanding, supported
by use of relevant evidence to support the
argument, clear chains of reasoning and well-
developed arguments. An awareness of the
significance of competing arguments is present
although may lack balance.
Level 4 10–12 Accurate knowledge and understanding, supported
throughout by use of relevant evidence which is well
chosen, logical, coherent chains of reasoning,
showing full understanding of the question.
Arguments are developed and evaluated. A full and
balanced awareness of the validity and significance
of competing arguments.
The mark schemes focus on the quality of student answers rather than the quantity
of points made and, as such, do not state any number of points students should
make in their responses. To guide teachers and markers, the breakdown of marks
allocated to each Assessment Objective is given within the levels-based mark
schemes to identify the emphasis of each Assessment Objective within each
question type.
The application of the new mark schemes will be demonstrated in the exemplar
materials (marked student answers to the sample assessment questions with
examiner commentary) which will be available on the Edexcel website in
spring 2015.
6. Quantitative skills
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6. Quantitative skills
6.1 Application of quantitative skills
Students are required to develop and demonstrate competence in the quantitative
skills outlined in this section throughout the course of study. It is important for
these skills to be applied to relevant economic contexts to ensure students develop
a holistic understanding of the application of quantitative skills to economics.
Students will already be familiar with most of the skills through their study of GCSE
Maths and it is important to demonstrate how these mathematical skills are
relevant to the study of economics.
Quantitative skills will be assessed in each exam series, with a minimum of 20% of
the total marks across the A level and 15% of total marks across the AS level
accounting for the assessment of the quantitative skills outlined in the Annex in the
Department for Education’s Subject Content for Economics document. These skills
will be assessed at Level 2 mathematical skills applied in an AS or A level
Economics context.
Where appropriate, the quantitative skills have been included within the specified
content in each theme of the specification. The tables below capture the direct
references to the quantitative skills within the specification content and make
suggestions of where these skills may be further developed through application to
economic contexts. These are not exhaustive and there are opportunities for
students to develop these skills throughout the specification content – students
should be encouraged to practise and apply these skills throughout each theme.
The skills can also be developed through the use of stimulus material and case
studies, providing opportunities for students to apply a range of quantitative skills
to analyse real economic issues. This stimulus material should take the form of
both qualitative and quantitative information.
Further support materials for quantitative skills, covering the possible methods,
some suggested themes to use for applying the skills, suggested practice questions
and areas of possible confusion for students, are available on the subject pages of
the Edexcel website.
Examples of where quantitative skills can be included within the teaching and
learning are given in the table on the next page.
6. Quantitative skills
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79
Quantitative skill Application
Calculate, use and understand
ratios, averages and fractions
1.6.2 The relationship between revenue and
costs
1.6.3 Profit and loss
2.2.1 Price elasticity of demand
2.2.4 Income elasticity of supply
2.3.1 Productivity
2.3.2 Capacity utilisation
2.4.4 Exchange rates
3.6.1 Poverty and inequality
4.1.3 Oligopoly
Calculate, use and understand
percentages, percentage changes
and percentage point changes
1.6.1 Revenue and costs
2.2.1 Price elasticity of demand
2.2.2 Competing on price
2.2.4 Income elasticity of supply
2.4.2 Developed, emerging and developing
economies
Understand and use the terms
mean, median and relevant
quantiles
2.4.2 Developed, emerging and developing
economies
Construct and interpret a range of
standard graphical forms
1.3.1 Demand
1.3.2 Supply
1.3.3 Price determination
1.3.4 Price mechanism
1.3.6 The competition
1.6.2 The relationship between revenue and
cost
2.2.1 Price elasticity of demand
2.2.4 Income elasticity of demand
3.6.1 Poverty and inequality
4.4.1 The AD/AS model
4.4.2 Demand-side policies
4.4.3 Supply-side policies
The use of stimulus material throughout the
teaching and learning will enable students to
interpret a wide range of standard graphical
forms.
Calculate and interpret index
numbers
2.4.2 Developed, emerging and developing
economies
2.5.3 Inflation
3.1.1 Growing economies
Index numbers can be applied to a range of
examples throughout the specification, such
as GDP, production, productivity, terms of
trade and unit labour costs.
6. Quantitative skills
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Quantitative skill Application
Calculate cost, revenue and profit
(marginal, average, totals)
1.6.1 Revenue and costs
1.6.2 The relationship between revenue and
costs
1.6.3 Profit and loss
4.1.4 Business objectives and pricing
decisions
Make calculations to convert from
money to real terms
2.5.3 Inflation
3.1.1 Growing economies
Make calculations of elasticity and
interpret the result
2.2.1 Price elasticity of demand
2.2.4 Income elasticity of demand
Interpret, apply and analyse
information in written, graphical,
tabular and numerical forms
This skill can be developed throughout all of
the sections listed in this table. The use of
stimulus material throughout the teaching
and learning will enable students to interpret
a wide range of information in written,
graphical, tabular and numerical forms.
Interpreting, analysing and challenging this
information will also create opportunities to
develop other quantitative skills listed in this
table, such as percentage changes and
percentage point changes.
7. Transferable skills
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81
7. Transferable skills
7.1 The need for 21st century skills
Higher education institutions, as well as employers, have consistently highlighted
the need for students to develop a range of transferable skills to enable them to
respond to the demands of undergraduate study and the world of work with
confidence.
The Organisation for Economic Co-operation and Development (OECD) defines
skills, or competencies, as ‘the bundle of knowledge, attributes and capacities that
can be learned and that enable individuals to successfully and consistently perform
an activity or task and can be built upon and extended through learning.’1
The National Research Council’s 21st century skills framework identifies three
overarching skills domains: cognitive skills, interpersonal skills and intrapersonal
skills. This section maps the new A levels in Economics to these skills, and outlines
how transferable skills can be developed through the teaching and learning of
economics and how these skills are assessed (where applicable) through the
relevant Assessment Objectives.
7.2 Cognitive skills
Cognitive skills relate to:
● Non-routine problem solving: expert thinking, metacognition and creativity
● Systems thinking: decision making, reasoning skills and critical thinking
● ICT literacy: the ability to access, manage, integrate, evaluate, construct and
communicate using IT
● Collaborative problem solving.
Cognitive skills
Assess Teach Evidence
Non-routine problem solving
Expert thinking X X Examine information and data, recognise
patterns and trends, and use and select
the appropriate information and data.
Understand the limitations of making
recommendations and drawing
conclusions.
Diagnose/identify issues and make
recommendations.
1 OECD (2012), Better Skills, Better Jobs, Better Lives: http://skills.oecd.org/documents/OECDSkillsStrategyFINALENG.pdf
7. Transferable skills
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Metacognition X X Draw on knowledge and understanding to
reflect on whether a strategy is working
(or the likelihood of a strategy being
effective) and make further
recommendations as appropriate.
Develop questioning skills and
understand that ‘there is no right
answer’.
Creativity X X Draw on a holistic understanding of
economics to integrate available
information and data.
Systems thinking
Systems thinking X X Develop a holistic understanding of
economics in a range of contexts and
understand economic influences.
Develop a chain of reasoning of
causes/consequences/costs/results,
considering alternative explanations.
Decision making X X Evaluate the consequences of actions by
individuals, firms or governments for the
national and global economy.
Analyse and evaluate the relative costs
and benefits of potential actions and
make recommendations as appropriate.
Reasoning skills X X Develop skills in systems analysis and
systems evaluation, and abstract
reasoning regarding how the different
elements of a process interact.
Critical thinking X X Develop a critical understanding of
concepts and behaviour through
understanding the extent to which
economic agents are affected by, and
respond to, economic issues, and the
variables impacting on
causes/consequences/costs/results.
To develop the ability to think like an
economist by using qualitative and
quantitative evidence to make informed
judgements, drawing on a toolkit of
economic concepts, models and theories.
ICT literacy
Access X Collect and/or retrieve information and
data to form an evidence base from
which recommendations and judgements
can be made.
Manage X Develop skills through organising data;
the complexity of the data will support
higher level thinking.
7. Transferable skills
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Integrate X Interpret, summarise, compare and
contrast information and weigh up
qualitative and quantitative evidence.
Draw on similar or different forms of
representation and media.
Evaluate X Reflect on information and data to make
judgements about the quality, relevance,
usefulness and efficiency of information.
Use ICT to access a broad range of
information and develop an
understanding of the constraints of
sources.
Construct X Use ICT to generate new knowledge by
adapting, applying, representing and
authoring information, for example using
spreadsheets for data manipulation or
graphing tools to illustrate trends.
Communicate X Convey information and knowledge to
various individuals and/or groups;
develop skills in communicating through
a range of techniques and media.
Collaborative problem solving
Collaborative
problem solving
X Establish and maintain shared
understanding and team organisation and
take appropriate action, developed
through in-class group work,
competitions and economic debates.
Understand that there are different
economic perspectives.
7.3 Interpersonal skills
Interpersonal skills relate to:
● Communication: active listening, oral communication, written communication,
assertive communication and non-verbal communication
● Relationship building: teamwork, trust, intercultural sensitivity,
self-presentation, social influence, and conflict resolution and negotiation.
Interpersonal skills
Assess Teach Evidence
Communication
Active listening X Engage with the viewpoints of others and
understand any ambiguities in order to
debate issues, especially with regards to
questioning ideas and statements.
Oral communication X Develop skills in articulating arguments
and debates, questioning concepts and
providing answers to justify
recommendations through group
discussions and peer learning.
7. Transferable skills
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Written
communication
X X Write coherently and structure responses
in assessments.
Develop skills in how to write for different
audiences.
Assertive
communication
X X Develop skills in forming and sustaining
an argument, how to present an
argument (i.e. being assertive, not
aggressive), presenting facts and
opinions and drawing on an evidence
base to support a position.
Non-verbal
communication
X Develop skills in reinforcing spoken
communication through body language,
gestures, tone and artefacts, for example
in-class presentations and group
discussions.
Relationship building
Teamwork X Develop an understanding of how to work
with others and support team members
through group work, joint research
projects and debates.
Trust X Develop a belief in the integrity and
reliability of another person offering a
different perspective or behaviour in
economics through teamwork and group
work.
Intercultural
sensitivity
X X Develop an understanding of intercultural
sensitivity, supported through economic
content, for example understanding the
impact of economic factors influencing
growth and development in different
countries.
Self-presentation X Influence the reactions and images
people have of individuals and their
ideas.
Understand that managing these
impressions encompass a wide range of
behaviours designed to create a positive
influence on work colleagues.
Social influence X X Develop an understanding of current
issues, for example how society is
changing, understanding different
influences and the importance of these
for economic agents.
Conflict resolution
and negotiation
X Weigh up arguments and, through doing
this, develop an understanding of how to
resolve conflicts in groups (different
opinions).
Synthesise the best ideas from all
viewpoints and perspectives, and use
these to make recommendations.
7. Transferable skills
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85
7.4 Intrapersonal skills
Intrapersonal skills relate to:
● Adaptability: the ability and willingness to cope with uncertain, new and rapidly
changing conditions, handling work stress and adapting to different
personalities, communication styles and cultures
● Self-management and self-development: work remotely in virtual terms, work
autonomously, be self-motivating and self-monitoring, and the willingness and
ability to acquire new information and skills related to work.
Intrapersonal skills
Assess Teach Evidence
Adaptability
Ability and
willingness to cope
with uncertain, new
and rapidly
changing conditions
X Develop the ability to adapt to changing
situations, unexpected events and
ambiguity, for example understanding
market failure and responding to current
issues.
Handling work
stress
X Develop the ability to analyse the known
and unknown as part of a process of
making recommendations and coming to
judgements.
Direct efforts towards constructive
solutions/recommendations.
Adapting to
different
personalities,
communication
styles and cultures
X Understand that economics can be
studied from a range of perspectives:
develop skills in being flexible and
listening to the views of others.
Understand the importance of tailoring
behaviour to persuade, influence and
work efficiently; leading groups;
adjusting behaviour to show respect for
value and customs; and understand the
implications of their own behaviour.
Self-management and self-development
Work remotely, in
virtual terms
X Undertake independent learning and
research, read around the subject, keep
up-to-date with current issues, using the
available tools to achieve this (i.e. range
of media channels) and seek sources of
help as appropriate (e.g. social media for
peer support).
Work autonomously X Develop own way of working and manage
homework and revision tasks with little or
no supervision.
7. Transferable skills
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86
Be self-motivating
and self-monitoring
X Through the course content, A level
students develop an understanding of
setting goals/targets, devising plans, the
importance of motivation and
performance strategies.
Willingness and
ability to acquire
new information
and skills related to
work
X Undertake wider reading and
independent research skills to keep up-
to-date with economic issues and
thinking.
Be proactive in developing relevant skills
by drawing on and applying subject
knowledge to competitions and related
courses, or the Extended Project
Qualification.
7. Transferable skills
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8. Economics B and the EPQ
The Extended Project Qualification (EPQ) is a standalone qualification that can be
taken alongside an A level. The EPQ supports the development of independent
learning skills such as research, critical thinking, extended writing and project
management. Students identify and agree a topic of their choice which may or may
not be related to an A level subject they are already studying.
Economics students may wish to choose a topic of interest from within the
Economics B specification content to explore for their EPQ. For example, they may
be interested in exploring a controversial economic issue such as high-speed rail
(HS2), UK membership of the EU or taxing wealth, or to investigate an aspect of
economics such as a study of the impact of unemployment on the local community.
There is an opportunity for students to use the broad pre-released context for
A level Paper 3 as a basis for their EPQ through completing an in-depth exploration
of one aspect of the pre-released context. For example, when researching the
Indian economy, students might investigate a particular issue they come across for
their EPQ. Using the pre-released context in this way supports students in
deepening their understanding and widening their perspective of this particular
context.
Students are not permitted to use work which has been or will be submitted for
another qualification for their EPQ. Centres should refer to the EPQ specifications
for further guidance and contact the relevant awarding organisation if there are any
questions regarding choice of topic for the EPQ.